It's Never Too Late to Deal with Unscheduled Assets

It's Never Too Late to Deal with Unscheduled Assets by: Krystiana L. Gembressi

St. John's University School of Law; Jamaica, N.Y.

A bankruptcy court may not reopen a bankruptcy case unless it finds that sufficient cause exists. In In re Dunning Brother’s Company,[1] decided under the Bankruptcy Act, the court held that there was cause to reopen a case that originated in 1936 in order to permit a trustee of a bankruptcy estate to administer unscheduled property that had remained part of the estate. The court’s rationale was that when a debtor fails to list certain assets in the bankruptcy estate, those assets will remain property of the estate long after the bankruptcy case is closed.

The first part of this article will analyze the criteria that must be met in order to reopen a bankruptcy case, focusing on the existence of unadministered assets. The second part will explain the Dunning court’s justification for reopening a case from 1936. The article will conclude with considering modern-day bankruptcy laws that were not applied in Dunning and how these laws compare with the court’s decision.

Reopening Estates under the Bankruptcy Act

Upon application, a bankruptcy court can reopen an estate “for cause shown.”[2] Generally, judges use their “discretion” to decide what constitutes sufficient cause to reopen cases.[3] When there is prima facie proof that an estate has not been fully administered, it is considered the “duty” of the court to reopen the estate.[4] The principle behind this philosophy is that creditors and other parties applying for the reopening of the estate should be allowed to benefit from the reopening.[5] However, courts also consider rights of third parties that have intervened with the unadministered estate, such as creditors or other interested parties. The court might decide that an estate should not be reopened if it would lead to inequitable results regarding the rights of these third-party interveners.[6]

There is no time limit for seeking to reopen an estate. Although laches may serve as the court’s justification for refusal to reopen, there is no fixed time in which an application must be made.[7] A period of limitation for application to reopen an estate would be contrary to the purpose of a reopening, as creditors would lack recourse in unadministered assets.

Any interested party who would be benefitted by the reopening has the right to file an application to reopen.[8] An interested party can include a creditor who has proved his or her claims or bona fide assignees of creditors.[9] The petition to reopen an estate should include facts that satisfy the requirement that there is sufficient “cause” for the reopening.[10] The applicant should present proof of unadministered assets and evidence that creditors or other parties making the application would benefit from the reopening.[11]

In re Dunning Brothers Co.: Unscheduled Assets under the Bankruptcy Act

Recently, in Dunning, the U.S. Bankruptcy Court for the Eastern District of California affirmed the longstanding tenet that unscheduled assets remain property of the bankruptcy estate indefinitely. The court held that a bankruptcy case that was closed more than 70 years ago could be reopened following the later discovery of certain unscheduled/unadministered assets.

The case originally commenced in 1936 under the Bankruptcy Act of 1898, when Dunning Brothers Company filed a petition in bankruptcy.[12] The case was closed in 1937, with the assumption that the estate was fully administered.[13] Seven decades later, it was discovered that the company did not list three parcels of land as assets in its bankruptcy petition.[14] In 2009, a railroad, which possessed a right of way over the company’s unscheduled parcels of land, purchased the unpaid claim of one of Dunning’s creditors and pursued a reopening of the case.[15] The reopening would permit a trustee to administer the property and convey clear title, thereby allowing the railroad to purchase the land.

All cases commenced under the Act must be determined as if the Bankruptcy Code had not been enacted.[16] Therefore, all cases that were initiated under the Act must currently be analyzed under the applicable Act laws. Because the case commenced in 1936, the Dunning court examined whether the case qualified for reopening under the former rules of the Act.

Eligibility for Reopening

The Dunning court stated that if there is a presence of assets in need of administration, the case is “presumptively appropriate to reopen.”[17] Thus, the court’s first inquiry was whether unadministered assets existed. In order to determine whether there were unadministered assets, the court had to evaluate whether the three parcels of land in question constituted property of the estate that vested in the trustee on April 27, 1936, the date of the filing of the petition.

Section 70(a) of the Act indicated that title vested in the trustee as of the date of adjudication, but related back to the date of filing.[18] The title report presented as evidence that Dunning Brothers Company owned, as of April 27, 1936, the fee interest in the three parcels of land in question. Thus, the court held that because those particular parcels vested in the trustee on April 27, 1936, the case was eligible to be reopened since the parcels were never administered.

73-Year Interval

Once it was determined that the case was appropriate to reopen, the court analyzed whether anything about the 73-year interval from 1936-2009 warranted a denial of reopening. The court stated that “in the context of unscheduled property, the question of whether the case should be reopened requires only a decision whether there may be unscheduled property that could be administered by a trustee.”[19]

Since unscheduled assets remain property of the bankruptcy estate, it follows that sufficient cause to reopen is shown where it is discovered that assets were not administered because they were not listed in the schedules. The court relied on the Supreme Court’s decision in First National Bank v. Lasater,[20] which held that “it cannot be that a bankrupt, by omitting to schedule and withholding from his trustee all knowledge of certain property, can, after his estate in bankruptcy has been finally closed up, immediately thereafter assert title to the property on the ground that the trustee had never taken any action in respect to it.”[21] The Dunning court reiterated that unscheduled property is in “custodia legis” and superior title is vested in the trustee.[22] Consequently, the court concluded that the three unscheduled parcels in question were still property of the 1936 bankruptcy estate. The court classified the case as the “paradigmatic case of reopening to deal with unadministered real property that is unscheduled.”[23]

Finally, the court briefly considered equitable grounds for justifying the reopening of the case. It noted that there has not been a sale of the three parcels in the intervening 73 years, the recorded post-bankruptcy easements would not prejudice the land, no rights have accrued with the parcels that would present a risk of unfairness, the sale should be straightforward, and there would be no functional purpose in refusing to reopen the case.[24] Since there were no third party interveners associated with the parcels, the court did not have much difficulty in deciding whether reopening the case would lead to inequitable consequences.

Although this case was decided under the Act, the court applied a rule that is presently found in § 554(d) of the Code, which states that “property of the estate that is not abandoned under this section and that is not administered in the case remains property of the estate.”[25] This law has remained unchanged for more than a century and demonstrates the magnitude of the equity interests that bankruptcy courts are trying to defend. Debtors cannot retain title to property that they failed to include as a scheduled asset. Because unscheduled assets were discovered, the Dunning court exercised its discretion to reopen the case in order to manage equitably the rights of creditors. The court warned that “the integrity of the bankruptcy system depends, in large part, on full, candid and complete scheduling of assets by debtors.”[26] In order to guard this doctrine and ensure an equitable outcome, the Dunning court was willing to reopen a bankruptcy case that was presumed to be closed decades ago.

Reopening Estates under the Bankruptcy Code

Of great importance was that the Dunning court, in applying the Act, did not have to contend with § 362 of the Code in its analysis. Section 362 is an automatic injunction, applying to all post-closing property of the estate, which halts actions by creditors to collect debts from a declared bankrupt.[27] Although the mechanical process of reopening estates is almost identical under the Act and Code, the application of § 362 is limited to cases decided under the Code. Thus, bankruptcy courts undoubtedly have a diverse set of criteria to analyze when deciding to reopen estates under the differing bankruptcy rules.

The procedure for reopening estates under the Code is very similar to reopening under the Act. However, once a case is reopened under the Code, the automatic stay of § 362 will take affect. Section 362(c)(1) extends protection of the automatic stay to unscheduled property of the estate. Section 362(d) allows certain equitable exceptions to be made to the automatic stay so that enforcement does not lead to excessively harsh and inequitable results.[28] If an exception applies, a bankruptcy court can annul an automatic stay, which allows relief from the stay to be granted retroactively.[29] Although annulling the stay can prevent unduly harsh outcomes, most courts find that acts in violation of the automatic stay are void under the Code.[30]

An illustration of the effectiveness of § 362(c)(1) on unscheduled assets is found in In re Enyedi.[31] The debtors filed for bankruptcy protection under chapter 7 and failed to schedule two pending lawsuits as assets.[32] The debtors’ attorney filed a motion to reopen the estate so that the unscheduled assets could be administered properly.[33] The defendants from one of the pending lawsuits, a personal injury claim, moved to dismiss their case on the grounds that the debtor failed to properly schedule the lawsuit as an asset in his bankruptcy case.[34] The court granted the motion, dismissing the personal-injury claim based on the debtors’ failure to schedule the lawsuit on the bankruptcy schedules.[35] Resultantly, the trustee of the debtors’ estate moved to dismiss the state court order setting aside the personal injury action on the grounds that it was void because it was entered in violation of the automatic stay.[36]

The court held that the order dismissing the personal-injury action was indeed void because the lawsuit was property of the debtors’ bankruptcy estate and subject to the protections afforded by the automatic stay of § 362(c)(1).[37] The court further reasoned that acts taken in violation of the automatic stay are deemed void and lack effect. Since the order dismissing the personal-injury litigation took place while the action was an unscheduled asset of the debtors’ bankruptcy estate, it was void.[38]

Since the automatic stay does not attach to assets under the Act, courts such as Dunning possess more discretion to weigh the equity interests and rights that have accrued when considering whether to reopen a case. For example, under the Act, if a creditor or other party acquires a debtor’s unscheduled real property, a bankruptcy court may later find that the estate should not be reopened because too many equitable interests in the property have accumulated. However, under the Code, § 362 will impart that any actions taken against the unscheduled property are void (with a few narrow exceptions). Thus, those dealing with unscheduled assets under the Code are more at risk of their transactions being held void. Courts applying the Act therefore have more discretion to consider multiple factors when deciding to reopen an estate, while courts applying the Code must adhere to § 362 and its limited exceptions.

Because of the balance between §§ 554(d) and 362, debtors now have more incentive to prepare a full and inclusive schedule than they did under the Act[39] because the Code provides more protection from the actions of creditors against a debtor’s assets. Under the Act, a creditor would be able to go after the debtor’s unscheduled property because there is no lingering automatic stay. While the Code supersedes the Act in protecting the debtor, it has the opposite affect on the creditor. Unscheduled property presents a greater issue under the Code because of the “explicit enforcement mechanisms that result from the interplay of Bankruptcy Code §§ 362(c)(1) and 554(d).”[40] Most actions taken on behalf of creditors towards a debtor’s unscheduled assets will be held void under the Code. As the Dunning court warns that “the protection afforded by section 362(c)(1) to property of the estate remaining after the case is closed spells trouble for anyone dealing with unscheduled property that is property of the estate.”[41]

Conclusion

Regardless of whether the Act or Code is applied upon the reopening of an estate, it is indisputable that unscheduled assets remain property of the bankruptcy estate and present a justifiable cause for reopening a previously settled case. Whether an estate will be reopened will depend on the particular circumstances of the case, applicable bankruptcy laws and an analysis of the equitable rights of all parties involved. Commenced in 1936, the Dunning decision stands for the notion that it is never too late to deal with unscheduled assets.

1. 410 B.R. 877 (Bankr. E.D. Cal. 2009).

2. 1 Collier on Bankruptcy, ¶ 2.49, at 287 (James W.M. Moore and Lawrence P. King eds., 14th ed. rev. 1974).

3. Id. at n.2.

4. In re Joslyn's Estate, 171 F.2d 159, 164 (7th Cir. Ill. 1948).

5. In re Kweit, 43 F.Supp. at 587.

6. 1 Collier on Bankruptcy, supra n.3, at 289 n.3.

7. Id. at 291-92.

8. 1 Collier on Bankruptcy, supra n.3, at 295.

9. Id.

10. Id. at 300.

11. Id. at 288 n.3.

12. In re Dunning Brother’s Co., 410 B.R. 877, 879 (Bankr. E.D. Cal. 2009).

13. Id. at 880.

14. Id.

15. Id.

16. Id. at 883.

17. Id. at 886.

18. In re Dunning Bros. Co., 410 B.R. at 886; see also Acme Harvester (“[E]xclusive jurisdiction of the bankruptcy court is so far in rem that the estate is regarded as in custodia legis from the filing of the petition.”).

19. In re Dunning Bros. Co., 410 B.R. at 887.

20. 196 U.S. 115 (1905).

21. First Nat'l Bank, 196 U.S. at 119.

22.In re Dunning Bros. Co., 410 B.R. at 888.

23. Id. at 889.

24. Id. at 888.

25. 11 U.S.C. § 554(d) (2006).

26. In re Dunning Bros. Co., 410 B.R. at 889.

27. See 11 U.S.C. § 362 (2006).

28. See 11 U.S.C. § 362(d) (2006) (listing certain instances when bankruptcy court can annul automatic stay to prevent severe inequitable outcomes).

29. In re Dunning Brother’s Co., 410 B.R. 877, 890 (Bankr. E.D. Cal. 2009).

30. Id.