The § 363 game may be changing again, at least with respect to the treatment of express easements in real property. A bankruptcy court in the Eastern District of New York called an audible earlier this year in In re Metroplex on the Atlantic LLC,[1] allowing a chapter 11 debtor to compel an objecting easement-holder to accept a monetary payout on account of his interest in real property being sold free and clear of liens under a liquidating chapter 11 plan. Prior to the Metroplex decision, express easements were considered virtually impossible to remove via a free-and-clear sale.[2]
The law is generally settled that an easement is an in rem property interest subject to § 363 of the Bankruptcy Code.[3] Section 363 allows for the sale of property of the estate “free and clear of any interest in such property of an entity other than the estate” if at least one of five conditions of § 363(f) apply.[4] The applicable conditions with respect to an express easement have historically been found in either subsection (f)(2),where the entity consents, or (f)(4), where the interest is subject to a bona fide dispute.[5] Following the Metroplex decision, however, another condition, subsection (f)(5) – which says that the entity could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of its interest – is now also in play.[6]
The easement at issue in Metroplex, a 24-foot right-of-way running down the middle of the debtor’s property, dated back to 1922 and was expressly reflected in the debtor’s deed to the property.[7] The easement-holders, residential property owners north of the property, claimed to have historically maintained and utilized a walking path across the easement, allowing them access to a public beach immediately south of the property by crossing the easement and walking underneath a public boardwalk running parallel to the beach.[8] When the debtor commenced construction of a 126-unit, 15-story condominium complex on the property in 2007, its development activities allegedly caused the walking path to become unusable.[9] Litigation ensued, and one of the objecting easement-holders obtained a default money judgment against the debtor in 2014 for intentionally and willfully violating the easement.[10]
The next year, the debtor filed its chapter 11 bankruptcy case and eventually proposed a plan to sell the property under § 363 free and clear of the easement, and to pay the easement-holders at least $50,000 (collectively) on account of the easement.[11] Some of the easement-holders objected, insisting that § 363 did not allow a sale free of the easement unless they consented or the easement was subject to a bona fide dispute.[12] The bankruptcy court disagreed, holding that § 363(f)(5) allowed a sale free of the easement because the easement-holders could be compelled to accept monetary damages for the loss of their interest in the property under New York law.
In Silverman v. Ankari (In re Oyster Bay Cove Ltd.),[13] the district court for the Eastern District of New York, admittedly without much analysis, stated that § 363(f) does not apply to easements and other non-monetary interests running with the land.[14] Although the decision has been criticized,[15] it has prevailed and been cited with support by other courts.[16] Setting aside the prior instruction in Oyster Bay Cove as dicta, the bankruptcy court reasoned that “[n]othing in the text of § 363(f) suggests that ‘any interest in property,’ of which property of the estate may be sold free and clear, does not include easements,” and therefore any condition listed in that section could apply to authorize a sale free of such interests.[17]
The bankruptcy court framed the issue as whether a court applying New York law would issue a mandatory injunction requiring the debtor to tear down the building to restore the easement, and found that it would not under those circumstances because restoring the easement was not the most equitable solution.[18] Under applicable New York law, a court can order the removal of an encroaching structure, but may instead “‘award damages in an appropriate case in lieu of an injunction or to render such other judgment as the facts may justify.’”[19] According to the court, removing the structure would have no practical benefit because the easement would still be impassable due to the height of the boardwalk, the easement-holders apparently had easy access to the beach and boardwalk from nearby streets (eliminating the necessity of the easement for that purpose), and destroying the debtor’s only valuable asset would impose a substantial burden on the debtor and all its other creditors.[20] The court found it more appropriate to compensate the easement-holders with monetary damages in lieu of a mandatory injunction, and held that the value of the portion of the easement obstructed by the debtor’s building was de minimis due to the boardwalk obstructing beach access anyway.[21]
The Metroplex ruling is certainly a powerful addition to the estate fiduciary’s playbook in maximizing value of the estate. However, aside from the seemingly stark departure from generally accepted precedent, one could also quibble with the court’s equity balancing in that case. The Metroplex decision is troubling in that a debtor who willfully and intentionally breached its legal obligations, made misrepresentations to the state court, and essentially thumbed its nose at a legal obligation it had actual notice of at the time it purchased the property was then allowed to use the bankruptcy process to avoid responsibility or liability for its improper actions. The bankruptcy court seemed more determined not to “reward a litigant’s stubborn desire to pursue a remedy that would not benefit him and would harm others” than to punish the debtor’s grossly inequitable behavior.[22] From the stands, it appears a not-so-honest-or-unfortunate debtor caught a Hail Mary on this one.
[1] 545 B.R. 786 (Bankr. E.D.N.Y. 2016).
[2] See Koepp v. Holland, 688 F.Supp.2d 65, 92 (N.D.N.Y. 2010), aff’d on other grounds, 593 Fed. Appx. 20 (2d Cir. 2014); Grant v. Carr (In re Alamo), 239 B.R. 623, 625 (Bankr. M.D. Fla. 1999); Silverman v. Ankari (In re Oyster Bay Cove Ltd.), 196 B.R. 251, 255-256 (E.D.N.Y. 1996).
[3] See Sutera v. Go Jokir Inc., 86 F.3d 298, 301-302 (2d Cir. 1996); Gouveia v. Tazbir, 37 F.3d 295, 299 (7th Cir. 1994) (restrictive covenant is an “interest” for purposes of § 363(f)).
[4] 11 U.S.C. § 363.
[5] Id. In the context of restrictive covenants, courts have also applied § 363(f)(1), where applicable nonbankruptcy law permits a sale free and clear. See, e.g., In re Daufuskie Island Properties LLC, 431 B.R. 626, 643 (Bankr. D. S.C. 2010).
[6] Id.
[7] Metroplex, 545 B.R. at 789.
[8] Id.
[9] Id. at 788-789. There was conflicting testimony on this point, but the easement-holders claimed the boardwalk was originally 10-12 feet above the walking path (allowing for easy access to the beach across the easement by walking under the boardwalk) and the debtor’s construction resulted in a “build-up” of sand such that there is now only a few feet of space between the ground and the boardwalk.
[10] Id. at 790. The trial court found that the easement was still valid and awarded the easement-holder compensatory and punitive damages. Id. In a separate action, the trial court denied another easement-holder’s request to halt the ongoing construction based on the debtor’s actions, in part because the debtor represented that it would accommodate the easement, if valid, in its construction (which it did not do). Id.
[11] Id. at 790-791.
[12] Id.
[13] Silverman v. Ankari (In re Oyster Bay Cove Ltd.), 196 B.R. 251 (E.D.N.Y. 1996).
[14] Id. at 255-256 (“11 U.S.C.A. 363(f) and Bankruptcy Rule 6004, which refer to the sale of land ‘free and clear’ from these ‘interests,’ are not intended to sever easements and other non-monetary property interests that are created by substantive State law. Indeed, absent the consent of the owner of the easement or the easement being in bona fide dispute, the Bankruptcy Code does not even allow the Bankruptcy Court to authorize a sale of the property ‘free and clear’ of an easement.”)
[15] George W. Kuney, Further Misinterpretation of Bankruptcy Code Section 363(f): Elevating in Rem Interests and Promoting the Use of Property Law to Bankruptcy-Proof Real Estate Developments, 76 Am. Bankr. L.J. 289, 301-305 (2002).
[16] See, e.g., Alamo, 239 B.R. at 625.
[17] Metroplex, 545 B.R. at 794-795.
[18] Id. at 792, 796.
[19] Id. at 796, quoting N.Y. Real Prop. Acts. Law § 871(1).
[20] Id. at 792, 796-800.
[21] Id. at 799-800.
[22] Id. at 801.