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Update: Supreme Court Grants Cert to Resolve Circuit Split Regarding Pre-Bankruptcy Seizure

We recently reported on a decision of the United States Court of Appeals for the Third Circuit in favor of a creditor that seized a debtor’s property pre-petition.   In In re Denby-Peterson, the Third Circuit sided with the minority of courts that have held that “a secured creditor does not have an affirmative obligation under the automatic stay to return a debtor’s collateral to the bankruptcy estate immediately upon notice of the debtor’s bankruptcy.”[1]  Rather, the secured creditor’s obligation to return the property is subject to a motion for turnover under Section 542 of the Bankruptcy Code.  The majority of courts of appeals to consider the question, including the Seventh Circuit, have reached the opposite conclusion, that the automatic stay, which “becomes effective immediately upon filing the petition” requires the creditor to return property seized pre-petition “and is not dependent on the debtor first bringing a turnover action.”[2] 

Yesterday, the Supreme Court granted certiorari to hear an appeal of the Seventh Circuit’s decision in Fulton.[3]  While this case is hardly going to be the most watched of the current term, bankruptcy practitioners should not overlook it.  In addition to the obvious importance for consumer cases, where pre-petition seizures of vehicles are often at issue, the case could have implications for an array of pre-bankruptcy remedies, including wage garnishments, account freezes, inventory foreclosures, and rerouting of goods in transit. 

Under principles of stare decisis, there is reason to expect the minority view to prevail.  In Citizens Bank v. Strumpf, the Court held that the imposition of a post-petition “administrative hold” by a Maryland bank on the account of a debtor that was both depositor and borrower – for the express purpose preserving the right of setoff – did not violate the automatic stay.[4]  In the view espoused by Fulton and the other majority courts, the bank’s conduct in Strumpf might arguably be more egregious, since its “seizure” occurred post-petition.  But the Supreme Court was of the view that the temporary nature of the freeze as well the bank’s promptness in filing a motion for relief from the stay distinguished its conduct from a true setoff.  And, perhaps most significantly for the coming decision, the Court explicitly held in Strumpf that Section 362(a)(7) does not require “immediate payment of a debt subject to setoff.”[5] 

We will continue to monitor the case and will post additional updates as the case moves forward. 

[1] In re Denby-Peterson, 941 F.3d 115, 119 (3d Cir. 2019). 

[2] In re Fulton, 926 F.3d 916, 924 (7th Cir. 2019).  The “majority” courts are the Second, Seventh, Eighth, and Ninth Circuits; the “minority” courts are the Third, Tenth and D.C. Circuits.

[3] City of Chicago v. Fulton, 2019 U.S. LEXIS 7620. 

[4] 516 U.S. 16 (1995).  As evidence of our longstanding and careful attention to this issue, we refer the reader to a November 1, 1995 Patterson Belknap client alert on the Strumpf decision.  That alert pre-dates the existence of this (or any other) blog, and as such there is no hyperlink available.  Requests for hard copies will be processed in the order in which they are received. 

[5] The Third Circuit interpreted this to mean that the turnover provision in Section 542 is not “self-executing,” a conclusion that clearly supports the minority view.