§ 141.6 — Automatic Conversion: The “Drop Dead” Clause
Revised: June 10, 2004
Often the outcome of negotiation of a motion to convert, to dismiss or for relief from the stay is an agreed order that certain things will occur or the Chapter 13 case will be converted or dismissed. Bankruptcy courts sometimes impose automatic “drop dead” provisions requiring conversion to Chapter 7 or dismissal upon future default or misconduct when the debtor has defaulted under the confirmed plan but appears honest of effort and entitled to a second chance. It has been held that a “probationary” order for automatic conversion upon a future default is enforceable and self-executing.1
Not all courts agree that a provision for automatic conversion to Chapter 7 is enforceable. In In re Howard,2 the confirmed plan required the debtor to sell property by a certain date or a lienholder would be permitted to foreclose without further order. In addition, the plan stated that the debtor “agreed to enter a motion to convert the case to a chapter 7 or to consent to the entry of such motion if the property had not been sold by November 18, 1993.”3 The debtor did not sell the property, and the lienholder sought foreclosure and conversion.
The bankruptcy court held that foreclosure without further order was not offensive; but automatic conversion to Chapter 7 was not enforceable because it presumed to waive the debtor’s right to dismiss under § 1307(b):4
[T]he debtor who initiates relief in chapter 13 retains the right to dismiss their case throughout the reorganization process. This remains true notwithstanding the creditor’s reliance on the provisions of a confirmed plan of reorganization. . . . To the extent that the Court may read any provision of this debtor’s plan of reorganization to constitute a waiver of the right to dismiss the case at any time, such waiver is unenforceable.5
The outcome in Howard is supported by sound policy. Chapter 13 has always been a voluntary undertaking. Although a Chapter 13 debtor’s right to dismiss at any time under § 1307(b) may not be as “absolute” as first appears,6 the language prohibiting any waiver of the right to dismiss implements the voluntary nature of the chapter and is appropriately interpreted to invalidate even a debtor’s consent to a drop-dead clause.
On the other hand, the plan provision in Howard was binding on the debtor under § 1327(a),7 and confirmation should have precluded the debtor’s opposition to conversion. Perhaps the debtor’s remedy in Howard was to quickly file a competing motion to dismiss under § 1307(b).8
The mechanism for triggering automatic conversion to Chapter 7 (or dismissal) is typically notice from the trustee or a creditor that the condition has occurred. For example, the drop-dead clause will sometimes specify that upon notice from the Chapter 13 trustee that the debtor has defaulted in payments, the case will be converted to Chapter 7. The notice may take the form of an order for conversion submitted by the Chapter 13 trustee. Creditors often will not have had notice of the original motion that gave rise to the drop-dead order, and there will be no hearing or notice to creditors at the time of the condition that triggers conversion.
A creditor opposed to conversion is hard pressed to participate until after the fact when conversion results from an invisible drop-dead order. The first the creditor will know of the provision for automatic conversion will be the notice that the Chapter 13 case has been converted to Chapter 7.9 If the creditor prefers dismissal or some other remedy, the creditor must act quickly by motion to alter or amend the order of conversion under Bankruptcy Rule 9023 or for relief from the order of conversion under Bankruptcy Rule 9024.
1 In re Gomes, 63 B.R. 300 (Bankr. D.R.I. 1986). See also In re Standfield, 152 B.R. 528, 540 (Bankr. N.D. Ill. 1993) (“Provisions . . . for the automatic lifting of the stay for failure to make currently due mortgage payments, coupled with such notice and opportunity to cure terms, have long been approved and enforced to settle section 362(d) stay relief motions. Such orders containing drop dead provisions are in the nature of settlement agreements between debtors and secured creditors. . . . [T]hey are judgments which may be overturned on appeal only upon a showing of abuse of discretion.”).
2 179 B.R. 7 (Bankr. D.N.H. 1995).
3 179 B.R. at 8.
4 11 U.S.C. § 1307(b) provides in part: “[O]n request of the debtor at any time . . . the court shall dismiss a case under this chapter. Any waiver of the right to dismiss under this subsection is unenforceable.” See § 330.1 [ Absolute Right of Debtor? ] § 151.2 Absolute Right of Debtor?.
5 In re Howard, 179 B.R. at 9. See also Barbieri v. RAJ Acquisition Corp. (In re Barbieri), 199 F.3d 616 (2d Cir. 1999) (Debtors’ absolute right to dismiss a Chapter 13 petition under § 1307(b) overcomes bankruptcy court’s broad powers under § 105(a) to convert a Chapter 13 case to Chapter 7.).
6 See § 330.1 [ Absolute Right of Debtor? ] § 151.2 Absolute Right of Debtor?.
7 See § 229.1 [ 11 U.S.C. § 1327(a): Binding Effect on Creditors and Debtors ] § 120.2 11 U.S.C. § 1327(a): Binding Effect on Creditors and Debtors.
8 See § 330.1 [ Absolute Right of Debtor? ] § 151.2 Absolute Right of Debtor?.
9 See Fed. R. Bankr. P. 2002(f), discussed in § 311.1 [ Conversion by Debtor ] § 141.1 Conversion by Debtor.