Chapter 11 Debtor Leases Equipment During Chapter 11, Doesn't Use it -- What is Owed to Lessor?

Recent decisions by the Bankruptcy Court for the Northern District of Indiana, In re Curry Printers, Inc., 135 B.R. 564 (Bankr. ND IN 1991) and the United States District Court for the Western District of Louisiana, Kimzey v. Premium Casing Equipment, LLC, 2018 WL 1321971(WD LA 2018) have created a census regarding what was, previously, a split of authority on how a debtor (in a reorganization) as a lessee, must treat a lessor, with respect to monthly payment requirements. Kimzey is the best example of the “perfect storm” that is created when a debtor leases property during a Chapter 11, has a valid business purpose for wanting to lease the property but doesn’t use it. What does the debtor owe the lessor?

In Kimzey, the debtor was in the business of oil pipeline servicing. It wanted to have sufficient machinery on hand to be able to service any potential customer’s needs. It, therefore, made the business decision to keep a piece of equipment leased from one Premium Casing Equipment. During the course of the Chapter 11, it never needed and, therefore, never used the equipment. Of course, it did not pay the lessor.

When the Chapter 11 went down the tubes, so to speak, the lessor sued for the monthly payments. The debtor argued that the measure of damages was governed by 11 U.S.C. §503(b) which provides that the debtor must (but should only) pay the “actual and necessary costs of preserving the estate”. The debtor argued that since it hadn’t used the property, there were no actual and necessary costs and, therefore, no payments were owed. The lessor argued that actual use was not necessary (against the line of cases that so state) but argued that the administrative claim ought be equal to the fair and reasonable value of the property which, in this case (as it would be in most cases) would be the agreed upon rental amount.

As indicated in both Kimzey and In re Curry Printers, Inc., a number of Bankruptcy Courts and Courts of Appeal have addressed the issue. A fair reading of the trend is that the proper measure of damages is, in fact, the reasonable value of the leased property and that, in almost all circumstances, would be the fair, market rent, i.e., the amount on the contract. Also see, In re Fred Sanders Co., 22 B.R. 902 (Bankr. ED MI 1982).

Moving forward, counsel for debtors wishing to reorganize (Chapters 11, 12 & 13) must recognize that the amount required to pay on a lease will almost certainly be the dollar amount on the lease, itself.

Categories: Reorganization

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