Congress Brings Relief to Commercial Landlords against Preference Payments under Bankruptcy Code

Congress Brings Relief to Commercial Landlords against Preference Payments under Bankruptcy Code

In the wake of the global pandemic, complications have arisen between the landlords and the tenants. On one hand, tenants have been fearing unexpected evictions, and on the other hand, landlords have been troubled with the thought of delay in rent payments. However, many landlords and tenants have struck a deal where landlords have agreed for deferred payments or partial payments and allowed the tenants to keep the possession of the property. But, these arrangements do not seem to strike equity and even sound risky for the landlords. It is so because, if a tenant files a bankruptcy petition, landlord might have to repay the rent payments to the bankruptcy trustee because the rent payments would be considered as “preferences” under the Bankruptcy Code[1].

In order to combat this dicey situation and the adverse effects of the COVID 19, the Congress passed the Consolidated Appropriations Act of 2021 (“CAA”). Through CAA, various amendments have been brought to the Bankruptcy Code with the aim to protect the commercial landlords (and vendors/suppliers) from preference claims[2]. The said amendment applies to late payments made under the agreements entered into on or after March 13, 2020. It allows the landlords to provide payment deferments to their tenants without having the fear of a bankruptcy trustee demanding back the rent payments as preferences, in case the tenant files for bankruptcy protection. The amendment would act in favor of both the tenants and the landlords and would avoid unnecessary eviction.

To give a brief on Preference Action, the Bankruptcy Code[3] allows a trustee to avoid and recover “preference” payments to creditors within ninety days of the bankruptcy filing. The objective of this provision is to prevent aggressive collection activity in the name of bankruptcy. However, not all payments are considered as “preferences”. Section 547 of the Bankruptcy Code defines a preference payment as a payment on an “antecedent debt” which means a debt accrued in the past rather than the present. Further, the payment is to be made while the debtor was insolvent, where the debtor’s assets were less than the debtor’s liability, and is made to a non-insider creditor within the ninety days of filing the bankruptcy. Lastly, the payments made should allow the creditor to receive more on the claim than it would have, had the payment not been made and the claim been paid through the bankruptcy proceeding. A payment which meets the aforementioned criteria had to be repaid to the trustee, even if the payments were to be made to the creditor in good faith. Following the repayment of these payments to the trustee, the commercial landlords/ suppliers/ vendors can file an unsecured proof of claim against the debtor. However, even after filing it, the debtor would only receive a pro-rate recovery with other unsecured creditors, which under Chapter 7, amounts to less than ten cents on the dollar. Therefore, the commercial landlords avoid doing business with distressed companies in order to minimize the risk of returning the payments or enter into litigation against a bankruptcy trustee. Section 547(j) brought by CAA seeks to alleviate the common creditor problem. Section 547(j) encourages payment relied from landlord till the pandemic lasts. The provision grants preference protection to landlords of a non-residential real property and to vendors/suppliers of goods and services, who had received deferred payments from debtors after March 13, 2020. The newly added provision would remain in place for two years, expiring on December 27, 2022. Under Section 547(j) the trustee is prevented from recovering certain payments made before the bankruptcy as a preferential payment. These payments are “payment of rental arrearages” in connection with an “agreement or arrangement” made between a commercial landlord and tenant on or after March 13, 2020 “to defer or postpone rent and other periodic charges”; and “payment of supplier arrearages” made in connection with an “agreement or arrangement” made on or after March 13, 2020, between a company and a “supplier of goods or services to defer or postpone the payment of amounts due under an executor contract for goods and services” However, it is pertinent to keep in mind that even if the payment falls under Section 547(e), the creditor would still have to defend against a preference action.

[1] 11 U.S. Code § 547

[2] 11 U.S. Code § 547(j)

[3] 11 U.S. Code § 547