GT Alert

Modifications to the United States Bankruptcy Code Affecting Commercial Real Estate Transactions

November 2005

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Several modifications to the United States Bankruptcy Code set forth in the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (the “Act”) will directly impact owners, lenders and others involved with commercial real estate assets that become involved in bankruptcy cases commenced on and after October 17, 2005.

Limitations on Extension of Time for Assumption or Rejection

An unexpired lease of nonresidential real estate under which the debtor is the lessee will automatically be deemed “rejected” under the Bankruptcy Code if a debtor fails to file a motion to either assume or reject the lease within the earlier of: (i) 120 days after commencing its Chapter 11 case, and (ii) the date of entry of a confirmation order. 11 U.S.C. § 365(d)(4)(A). The Bankruptcy Court may extend this 120-day period for no more than 90 additional days upon a showing of “cause.” 11 U.S.C. § 365(d)(4)(B)(i). Further extensions of this period are permitted only upon the prior written consent of the lessor. 11 U.S.C. § 365(d)(4)(B)(ii). This is a significant change from current law and will materially complicate parties’ planning and action – particularly in retail matters and other businesses with multiple leased locations.

Recovery of Administrative Claim

In the event that a debtor assumes a nonresidential real property lease and subsequently rejects it, the Act limits the administrative priority for the claim arising from such rejection to all monetary obligations (other than those arising from or related to a “failure to operate” or a “penalty provision”) due under the lease for the two years following the later of (i) the rejection date or (ii) the date of actual turnover of the leased premises, “without reduction or setoff for any reason whatsoever except for sums actually received or to be received from an entity other than the debtor…” Any sums remaining due under the terms of the lease are treated as a general unsecured claim subject to the Section 502(b)(6) cap. 11 U.S.C. § 503(b)(7). This change may make it feasible for a Chapter 11 debtor to assume a commercial lease and later reject the same lease knowing that rejection damages for the previously assumed lease will be capped – a significant change that may increase uncertainty for lessors/owners/ lenders in certain situations.

Necessity of Curing Nonmonetary Defaults

The Act now provides that a debtor is not required to cure a nonmonetary default in order to assume an executory contract or unexpired lease if it is impossible to do so by “performing nonmonetary acts at and after the time of assumption.” 11 U.S.C. § 365(b)(1)(A). However, a nonmonetary default arising from “a failure to operate in accordance with a nonresidential real property lease” must be cured by “performance at, and after, the time of assumption” and the lessor must be compensated for any pecuniary losses resulting from any such default. 11 U.S.C. § 365(b)(1)(A). These provisions remove the previous uncertainty related to nonmonetary defaults.

Clarification of “Anti-Assignment Provision”

With the addition of a few simple words, the Act now makes clear that Section 365(f)(1), commonly known as the “anti-assignment provision,” is subject to the provisions of Section 365(b), which state, among other things, that in order to assume a lease the debtor must provide “adequate assurance of future performance.” 11 U.S.C. § 365(b)(1). This has particular application in connection with shopping center leases as Sections 365(b)(3)(A)-(D) provide: “[A]dequate assurance of future performance of a lease of real property in a shopping center includes, [among other things,] …assurance that the assumption or assignment of such lease is subject to all the provisions thereof, including (but not limited to) provisions such as radius, location, use, or exclusivity provision …and that assumption or assignment of such lease will not disrupt any tenant mix or balance in such shopping center.” 11 U.S.C. § 365(b)(3)(A)-(D).

This Alert was written by Richard S. Miller, Maria J. DiConza and David Wolnerman in the New York office. Please contact Mr. Miller, Ms. DiConza or Mr. Wolnerman at 212.801.9200 or any other member of the GT Business Reorganization & Bankruptcy Group to address issues as they arise or if you would like to discuss any insolvency, bankruptcy or restructuring issues raised by the Act or otherwise.

© 2005 Greenberg Traurig

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