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Civil Resource Manual

61. Executory Contracts in Bankruptcy -- Government and Special Contracts


A. Mechanics. Request for determination that automatic stay does not apply coupled with request for relief from the stay. A request for relief from the stay is a contested matter commenced by a motion and governed by Fed. R. Bankr. P. 9014. The stay expires 30 days after filing of the motion unless the court, after notice and hearing, continues it. § 362(e). The hearing is generally held on an expedited basis, and the scope of these hearings is generally limited. § 362(e); see In re Transamerican Natural Gas Corp., 978 F.2d 1409, 1416 (5th Cir. 1992); In re Midway Airlines, Inc., 167 B.R. 880, 883 (Bankr. N.D. Ill. 1994) ("hearings to determine whether to lift the stay are meant to be summary in character. ... limited strictly to adequacy of protection, equity, and necessity to an effective reorganization."); In re Grand Traverse Dev. Co. L.P., 150 B.R. 176, 187-89 (Bankr. W.D. Mich. 1993) (same); In re Orfa Corp. of Philadelphia, 170 B.R. 257, 267 (E.D. Pa. 1994) (even "inadvertent failure to hold preliminary hearing" results in termination of stay; however, creditor's acts can waive this result). Compare In re Vitreous Steel, 911 F.2d 1223 (7th Cir. 1990) with In re Shehu, 128 B.R. 26 (Bankr. D. Conn. 1991) (cases representing divergent views on scope of hearing).

B. Is termination of an executory government contract subject to the automatic stay? A prepetition termination for default that has become final is not stayed. Cf. Moody v. Amoco Oil Co., 734 F.2d 1200 (7th Cir. 1984). Postpetition terminations for convenience probably are stayed because the termination action deprives the estate of an asset the might adversely impact the debtor in possession's ability to formulate a viable reorganization plan. Compare In re West Elecs., 852 F.2d 79 (3d Cir. 1988) (relief from the stay is mandated because of Anti-Assignment Act) with In re Computer Communications, 824 F.2d 725, 728-31 (9th Cir. 1987) (dicta) (termination of even non-assumable personal services contract subject to automatic stay). Some courts have also held that terminations for default are similarly stayed. In re Corporacion de Servicios Medicos Hospitalarios de Fajardo, 805 F.2d 440 (1st Cir. 1986); Harris Prods., Inc., ASBCA No. 30426, 87-2 BCA ¶ 19,807 (both finding that pending default terminations based on prepetition facts are stayed); Communications Technology Applications, Inc., ASBCA No. 41573, 92-3 BCA ¶ 25,211 (board holds that the automatic stay provisions nullify termination for default received two days after the petition was filed); see generally In re National Environmental Waste Corp., 191 B.R. 832, 834 (Bankr. E.D. Cal. 1996) (Executory contracts are property of the bankruptcy estate and termination of an executory contract requires relief from the automatic stay; termination of a contract without relief from the stay is an act to exercise control over property of the estate which violates § 362(a)(3).). However, the automatic stay does not apply to contracts entered into by the debtor postpetition. Such contracts may be terminated by the non-bankrupt party in accordance with the terms of the contract without relief from the stay. In re New England Marine Servs., Inc., 174 B.R. 391, 397 (Bankr. E.D.N.Y. 1994).

C. That contract is non-assumable/non-assignable is "cause" for relief from stay under § 362(d)(1). In re West Elecs., 852 F.2d 79 (3d Cir. 1988); In re Adana Mortgage Bankers, 12 B.R. 977, 988 (Bankr. N.D. Ga. 1980); see also In re Pennsylvania Peer Review Org., 50 B.R. 640 (Bankr. M.D. Pa. 1985).


A. Medicare Provider Agreements

1. The majority view is that Medicare provider agreements are executory contracts which may be assumed by the provider. See, e.g., In re University Medical Ctr., 973 F.2d 1065 (3d Cir. 1992); In re Monsour Medical Ctr., 8 B.R. 606 (Bankr. W.D. Pa.), aff'd, 11 B.R. 1014 (W.D. Pa. 1981); In re Advanced Professional Home Health Care, 94 B.R. 95 (E.D. Mich. 1988); In re Memorial Hosp., 82 B.R. 478 (W.D. Wis. 1988); In re St. Johns Home Health Agency, Inc., 173 B.R. 238 (Bankr. S.D. Fla. 1994).
2. If debtor-provider assumes the Medicare provider agreement, it assumes the benefits of continued payments and the burden of recoupment of prior overpayments from currently due amounts. See, e.g., In re Visiting Nurse Ass'n, 121 B.R. 114, 119 (Bankr. M.D. Fla. 1990); In re Yonkers Hamilton Sanitarium, 22 B.R. 427, 433 (Bankr. S.D.N.Y. 1982), aff'd, 34 B.R. 385 (S.D.N.Y. 1983); In re Berger, 16 B.R. 236 (Bankr. S.D. Fla. 1981). Contra In re Metropolitan Hosp., 131 B.R. 283 (E.D. Pa. 1991); cf. In re Willington Convalescent Home, 39 B.R. 781 (Bankr. D. Conn. 1984) (Medicaid payments do not meet single transaction requirement), rev'd on other grounds, 72 B.R. 1002 (D. Conn. 1987), aff'd, 850 F.2d 50 (2d Cir. 1988), aff'd, 109 S.Ct. 2818 (1989); In re Dartmouth House Nursing Home, 9 B.C.D. 954 (Bankr. D.N.H. 1982).
3. Most courts have held that the debtor's failure to assume the provider agreement does not impair a creditor's ability to recoup prepetition overpayments from postpetition payments to a debtor, where both arise from the same contract. See In re St. Johns Home Health Agency, Inc., 173 B.R. 238 (Bankr. S.D. Fla. 1994) (Medicare adjustment to ongoing payments to recover prior overpayments is properly characterized as recoupment); In re Tidewater Memorial Hosp., 106 B.R. 876 (Bankr. E.D. Va. 1989); In re Advanced Professional Home Health Care, 94 B.R. 95, 97 (E.D. Mich. 1988). Contra In re University Medical Ctr., 973 F.2d 1065 (3d Cir. 1992); In re Memorial Hosp., 82 B.R. 478, 483-84 (W.D. Wis.), appeal dismissed, 862 F.2d 1299 (7th Cir. 1988).
4. In determination of amounts payable, bankruptcy court should defer to SSA administrative procedures. In re Clawson Medical Ctr., 12 B.R. 647 (E.D. Mich. 1981); In re St. Johns Home Health Agency, Inc., 173 B.R. 238 (Bankr. S.D. Fla. 1994) (debtor cannot avoid Medicare's statutory requirement that it exhaust its administrative remedies prior to court having jurisdiction over matters "inextricably intertwined" with demands for Medicare funds); In re Berger, 16 B.R. 236 (Bankr. S.D. Fla. 1981) (same).
B. Government Procurement/Service Contracts
1. United States has actual title to materials used in connection with a government contract if that contract provides for the contractor to receive progress payments. In other words, if the contractor received progress payments, tools and inventory being used in the performance of that contract are merely in the possession of the contractor; such property is property of the United States and does not become property of the estate. United States v. Ansonia Brass & Copper Co., 218 U.S. 452 (1910); In re American Pouch Foods, 30 B.R. 1015 (N.D. Ill. 1983), aff'd, 769 F.2d 1190 (7th Cir. 1985), cert. denied, 475 U.S. 1082 (1986) (bankrupt manufacturer of Meals, Ready To Eat); In re Murdock Machine & Eng. Co., 620 F.2d 767 (10th Cir. 1980); In re Double H Prods., 462 F.2d 52 (3d Cir. 1972); Shepard Eng'g Co. v. United States, 287 F.2d 737 (8th Cir. 1961); In re Verco Indus., 27 B.R. 615 (Bankr. 9th Cir. 1982) (manufacturer of various types of military equipment for defense agencies); In re Wincom, 76 B.R. 1 (Bankr. D. Mass. 1987) (bankrupt Navy contractor of submarine antennae); In re Denalco, 51 B.R. 77 (Bankr. N.D. Ill.), rev'd on other grounds, 57 B.R. 392 (N.D. Ill. 1986), reheard sub nom. First Nat'l Bank of Geneva v. United States, 13 Cl. Ct. 385 (1987) (bankrupt Army contractor of gasoline cylinder heads); In re Economy Cab & Tool Co., 47 B.R. 708 (Bankr. D. Minn. 1985) (bankrupt Army contractor of aircraft maintenance platforms); 32 C.F.R. § 163.79-2 (1981) (upon the government's making of progress payments, title "forthwith vest[s]" in the government "to all parts; materials; inventories; work in progress ... thereto acquired or produced by the Contractor ... [and] to all like property thereafter acquired"); cf. In re Towe, 173 B.R. 197, 210 (Bankr. D. Mont. 1994) ("It is well settled that property in the debtor's hands that belongs to another does not become property of the estate under § 541(a)."). But see Skip Kirchdorfer, Inc. v. United States, 6 F.3d 1573 (5th Cir. 1993) (in criminal case court holds that "title vesting clause established a security interest in favor of the Government" and that theft of property from contractor's machine shop was not theft of government property); Marine Midland Bank v. United States, 687 F.2d 395 (Ct. Cl. 1982), cert. denied, 460 U.S. 1037 (1983) (government holds merely a secured interest in property despite title vesting clause); Brett W. King, Federal Acquisition Law In An Era Of Declining Defense Spending: Defining The Government's Interest In Defense Contractor Property, 42 Naval L. Rev. 35 (1995) (finding Marine Midland persuasive).
2. Bankruptcy court should defer under the doctrine of primary jurisdiction to the appropriate board of contract appeals or the Court of Federal Claims with respect to questions subject to the "disputes clause." Compare Quality Tooling, Inc. v. United States, 47 F.3d 1569 (Fed. Cir. 1995) (district court has discretion to hear CDA issues or stay its proceedings and transfer matter to the CFC; although stay and transfer "preferable," if that course of action would "cause substantial losses to the creditors ... and [retention of matter would] do no harm to the fabric of government contract law" district court competent to hear the matter) and In re Murdock Mach. & Eng'g Co., 990 F.2d 567, 571-72 (10th Cir. 1993) (district court has discretion whether to defer; however, "when jurisdiction over disputed claims is placed by law in a specialized tribunal, we expect that the litigation over the trustee's claims to recovery will be conducted in that forum") with United States v. General Dynamics Corp., 828 F.2d 1356, 1362-64 (9th Cir. 1987) (doctrine of primary jurisdiction properly invoked in CDA matters; "failure to defer when doctrine so mandates is reversible error" but court holds deferral to CDA forums not necessary because they are not agencies -- dissent is persuasive to the contrary); Matter of Gary Aircraft Corp., 698 F.2d 775, 784 (5th Cir.) ("bankruptcy court should defer liquidation of a government contracting dispute to the Board of Contract Appeals ... [this is] especially true when the sole significant asset of the debtor is a claim against the government"), cert. denied, 464 U.S. 820 (1983); In re American Ship Building Co., 164 B.R. 358, 362 (Bankr. M.D. Fla. 1994) ("in matters dealing with contract disputes [with the government] [Bankruptcy] court[s] should yield to the jurisdiction of the Board of Contract Appeals unless the government seeks the bankruptcy court's jurisdiction or waives any right to object to this Court's jurisdiction"); In re Misener Indus., 54 B.R. 89 (Bankr. M.D. Fla. 1985) (the CDA "is the scheme, to the exclusion of all others, which Congress has enacted for the resolution of contract disputes involving government procurement contracts"); In re Economy Cab & Tool Co., 47 B.R. 708 (Bankr. D. Minn. 1985); In re Vogue Instruments Corp., 31 B.R. 87 (Bankr. E.D.N.Y. 1983). Although we do not agree with the approach, other courts have reached the same result by applying the doctrine of abstention. In re American Pouch Foods, Inc., 30 B.R. 1015, 1023-24 (N.D. Ill. 1983), aff'd, 769 F.2d 1190 (7th Cir. 1985), cert. denied, 106 S. Ct. 1459 (1986); In re Plum Run Serv. Corp., 167 B.R. 460, 462-66 (Bankr. S.D. Ohio 1994) (district court has concurrent jurisdiction with Court of Federal Claims but should abstain to ASBCA to resolve matters concerning government contract interpretation). Contra In re The MacLeod Co., 67 B.R. 134 (Bankr. S.D. Ohio 1986), aff'd, 935 F.2d 270 (6th Cir. 1991) (court permitted debtor's assertion of compulsory counterclaim notwithstanding debtor's failure to comply with jurisdictional requirement under CDA of a contracting officer's decision); Gross v. USDA, 108 B.R. 272 (Bankr. D. Ore. 1989) (old § 106(c) as augmented by the "notwithstanding other laws" language of 28 U.S.C. § 1334(b), permits bankruptcy court to hear contract action against the United States which otherwise could only be brought in the Claims Court).
3. The CDA concept of a claim (requiring final CO's decision) and Bankruptcy Code's extremely broad and unrestricted concept of claim have resulted in controversy. Claims "arise" for bankruptcy purposes when (1) all "transactions" or acts necessary for liability occur, and (2) there is some prepetition relationship, "such as contact, exposure, impact, or privity" between the United States and the debtor such that the Government is able to "fairly contemplate" that it might have a claim against the debtor. See Lemelle v. Universal Mfg. Corp., 18 F.3d 1268, 1274-77 (5th Cir. 1994); In re Jensen, 995 F.2d 925 (9th Cir. 1993); In re Chateaugay Corp., 112 B.R. 513, 522 (S.D.N.Y. 1990), aff'd, 944 F.2d 997 (2d Cir. 1991); In re Finley, Kumble, Wagner, Heine, 160 B.R. 882, 891-92 (Bankr. S.D.N.Y. 1993) (when obligation stems from a contractual obligation, even a postpetition breach will be treated as giving rise to a prepetition liability if the contract was executed prepetition). This is regardless of enforcement efforts or of whether the claim is contingent, unliquidated, or unmatured when the petition is filed. See In re Buckenmaier, 127 B.R. 233 (Bankr. 9th Cir. 1991); Sherman v. First City Bank, 99 B.R. 333 (N.D. Tex. 1989), aff'd, 893 F.2d 720 (5th Cir. 1990); Braniff Airways v. Exxon, 814 F.2d 1030 (5th Cir. 1987). Courts which have considered the interaction between the CDA and the Bankruptcy Code have held that the Code definition applies. In re Remington Rand Corp., 836 F.2d 825 (3d Cir. 1988) (claim arose for bankruptcy filing purposes when government knew of debtor's liability despite CDA requirement that contracting officer make final decision before claim arises).
4. Debarment
a. § 525. If debarment is based solely upon filing of bankruptcy petition or failure to pay discharged claim, may violate anti-discrimination provisions of § 525. However, we argue that § 525 was never intended to apply to garden variety contractual relations. Also, counsel should be prepared to argue that debarment was based on other matters than the filing of the petition. See Watts v. Pennsylvania Housing Fin. Co., 876 F.2d 1090, 1093 (3rd Cir. 1989) (§ 525 only restricts discrimination in items such as a "license, permit, charter, franchise or other similar grant;" these items "are in the nature of indicia of authority from a governmental unit to the authorized person to pursue some endeavor"); In re Goldrich, 771 F.2d 28, 30 (2d Cir. 1985) ("although the exact scope of the items enumerated may be undefined, the fact that the list is composed solely of benefits conferred by the state that are unrelated to credit is unambiguous."); In re Esquisito Servs., Inc., 823 F.2d 151, 153 (5th Cir. 1987) (Air Force's refusal to exercise option in § 8(a) contract due solely to debtor's bankruptcy deemed violation of § 525) (note strong dissent opining that decision constitutes a de facto amendment of § 525 to cover contracts; also note that this holding is unique because of 8(a) relationship and may not apply to other forms of government contracts); In re Sonshine Grading, Inc., 27 B.R. 693 (Bankr. E.D.N.C. 1983).
b. § 362 - Application of automatic stay. Arguably, automatic stay does not apply since debarment does not constitute commencement of a proceeding, enforcement of a judgment or lien, or effort to obtain possession of property. But see In re Cavalier Clothes, (Bankr. E.D.N.Y. 1987) (debarment violated automatic stay), appeal dismissed (case settled); see generally Watts v. Pa. Hous. Fin. Co., 876 F.2d 1090 (3d Cir. 1989) (suspension of mortgage assistance payments upon filing did not violate automatic stay because housing authority's commitments were executory contracts to "make a loan or extend other debt financing" which are not assumable by debtor are terminable by housing authority under § 365(e)(2)(B)). Assuming the automatic stay applies, debarment may be exempt if it is intended to prevent fraud or promote consumer protection or safety (police or regulatory function exempt under § 362(b)(4)). Compare Eddleman v. Dep't of Labor, 923 F.2d 782 (10th Cir. 1991) (DOL suit against debtor employer to liquidate back wage claims and disqualify debtor from future government contracts for violations of minimum wage requirements of Service Contract Act, 41 U.S.C. § 351 et seq., excepted from automatic stay under § 362(b)(4) as "police or regulatory action") and In re Career Consultants, Inc., 84 B.R. 419 (Bankr. E.D. Va. 1988) (DOL action to enforce Service Contract Act excepted because it seeks to preserve and protect a valid public interest) with In re Four Winds Enters., 87 B.R. 624 (Bankr. S.D. Cal. 1988) (Army reinstitution of 1-year disqualification of contractor not excepted from automatic stay because regulation of household goods carriers was not what Congress contemplated when enacting § 362(b)(4)).

A. Airplanes And Ships. Section 1110 provides that in chapter 11 cases, purchase money secured debts and leases of airplanes and ships must be assumed, and all defaults cured, within 60 days of filing or the creditor/lessor is statutorily relieved of the automatic stay and may recover possession.

B. Non-Residential Real Property Leases. The debtor must assume or reject an unexpired lease of non-residential real property within 60 days of filing (unless the court within the 60 days extends the time period), and until assumed or rejected, all obligations (including rental payments) must be timely performed. § 364(d)(3) and (4); see Chatlos Sys. v. Kaplan, 147 B.R. 96 (D. Del. 1992); In re Valley Steel Products, 147 B.R. 168 (Bankr. E.D. Mo. 1992) (effective date of rejection of unexpired lease is date on which court issues order approving rejection, not date of filing of petition).

C. Collective Bargaining Agreements ("CBA").

1. At one time CBAs were considered executory contracts within the framework of § 365. This resulted in a conflict between (a) debtor's right under § 365 to reject any contract and (b) National Labor Relations Act prohibition against making unilateral changes in collective bargaining agreements, and a split in the circuits as to what standard should be applied to reject CBAs. In NLRB v. Bildisco and Bildisco, 465 U.S. 513 (1984), the Supreme Court held that a debtor could rejection a CBA if debtor shows that the agreement burdens the estate and that equities (such as possibility of liquidation, impact of claims on debtor and employees, and good faith of union and debtor) favor rejecting the collective bargaining agreement. See In re Alabama Symphony Ass'n, 155 B.R. 556 (Bankr. N.D. Ala. 1993); In re Blue Diamond Coal Co., 147 B.R. 720 (Bankr. E.D. Tenn. 1992) (both with comprehensive discussion of historical evolution of this issue).
2. Legislative Response: § 1113
a. Limits Bildisco ruling to chapter 9 and 13 cases, and to chapter 11 cases filed prior to enactment of § 1113 (July 10, 1984).
b. Proscribes unilateral termination or alteration of collective bargaining agreement. § 1113(f). This provision may "trump" other provisions of the Code. See In re Ionosphere Clubs, Inc., 154 B.R. 623 (S.D.N.Y. 1993) (discusses relationship between § 1113(f) and § 507).
c. Requires debtor, prior to seeking rejection of contract, to make a proposal to the union accompanied by sufficient information to permit proper evaluation of proposal. In re Maxwell Newspapers, Inc., 146 B.R. 920 (Bankr. S.D.N.Y.), aff'd in part and rev'd in part, 149 B.R. 334 (S.D.N.Y.), rev'd, 981 F.2d 85 (2d Cir. 1992).
d. Court may approve rejection of agreement if it finds: that (1) the debtor made a proposal; (2) the union rejected the proposal without good cause; and (3) the balance of equities clearly favors rejection of the agreement. § 1113(c). See Maxwell Newspapers, Inc., supra; In re Alabama Symphony Ass'n, 155 B.R. 556, 573 (Bankr. N.D. Ala. 1993 (discusses widely accepted nine part test for showing to support rejection). See also Int'l Union, UAW v. Gatke Corp., 151 B.R. 211 (N.D. Ind. 1991) (discusses split in circuit courts of appeals as to meaning of "necessary" modifications to CBA allowable under 1113(b)(1)(A)); In re Ionosphere Clubs, Inc., 1992 WL 73850 (S.D.N.Y. 1992) (interim relief under § 1113(e) denied).
e. Whether a court may award damages resulting from the rejection of a CBA under § 1113 is subject to controversy. Compare In re Blue Diamond Coal Co., 147 B.R. 720 (Bankr. E.D. Tenn. 1992) (court reasons that § 1113 makes § 365 inapplicable to CBAs therefore § 502(g) which gives an entity a claim for damages for rejection of an executory contract does not apply) with In re Garafalo's Finer Foods, 117 B.R. 363 (Bankr. N.D. Ill. 1990) (court assumes in dicta that damages for rejection of CBA may be recovered under § 502(g)).
f. The priority to be accorded to payments under a CBA is subject to controversy. Some courts have held that claims under a CBA are entitled to a "superpriority" while others hold that such claims are entitled to no special treatment. Compare United Steelworkers v. Unimet Corp., 842 F.2d 879, 881-82 (6th Cir.), cert. denied, 488 U.S. 828 (1988) (payments due under CBA are payable even though they did not qualify as admin expenses) with In re Ionosphere Clubs, Inc., 22 F.3d 403 (2nd Cir. 1994); In re Roth American, Inc., 975 F.2d 949, 956 (3d Cir. 1992) and In re Jones Truck Lines, Inc., 166 B.R. 885, 890-91 (Bankr. W.D. Ark. 1994) (§ 1113 does not affect priority of claims from CBA).
3. Section 1113 applies only to bankruptcies filed under Chapter 11. In re Rufener Const., Inc., 53 F.3d 1064, 1068 (9th Cir. 1995). Moreover, "[s]ection 1113 was intended to govern postpetition relationships in chapter 11 and has no practical application in a liquidating chapter 11 where no business activities are conducted postpetition." In re Jones Truck Lines, Inc., 166 B.R. 885, 890 (Bankr. W.D. Ark. 1994).
D. Savings and loan deficiencies in capital maintenance obligation. In 1990 Congress passed the Comprehensive Thrift and Bank Fraud Prosecution and Taxpayer Recovery Act in response to the Savings and Loan crisis. Part of this effort involved amending § 365 to include a provision preventing the Trustee from rejecting any commitment to maintain capital reserve requirements of a federally insured depository institution. See 11 U.S.C. § 365(o). It has a mandatory requirement that a trustee or DIP must assume any capital maintenance commitment and must immediately cure any deficit under such a commitment if it wants chapter 11 protection; otherwise it must liquidate under chapter 7. In re Firstcorp, Inc., 973 F.2d 243 (4th Cir. 1992).