November 9, 2015
by Alan S. Wolf
The Wolf Firm
USFN Member (California)
A servicer sends a motion for relief from stay referral to its local counsel. Counsel prepares the motion, files it with the court, and eventually obtains relief from stay. The entered order is sent to the servicer; the file is closed in the bankruptcy workstation and sent to foreclosure. Sound familiar? It’s a process that the industry has largely followed for over 30 years. Unfortunately, the process is fraught with danger. It is based on the wrongful premise — passed down from one servicing generation to the next — that once the stay has terminated, the property is no longer subject to the bankruptcy. The truth is that despite the stay termination, the real property continues to be property of the bankruptcy estate, and bad bankruptcy things can (and do) happen. Servicers should not close their files when the stay has terminated but rather, and quite distinctly, should only close their files when the property is no longer property of the bankruptcy estate.
Generally, when a bankruptcy petition is filed, all property of the debtor becomes property of the bankruptcy estate. While property is property of the estate, the bankruptcy court has jurisdiction over that property. This means that absent bankruptcy court approval, a debtor cannot sell or encumber the property and cannot enter into loss mitigation agreements regarding the property, nor can the debtor use any rents generated from the property. Additionally, this means that the property can be affected by plans (such as a chapter 13 cure-and-maintain plan or a chapter 11 or 13 cramdown), as well as by adverse motions (such as motions to sell free and clear of liens). In short, during the time that the property is property of the estate, the property can be adversely affected by the bankruptcy.
There are ways that the property is removed from the estate but, as noted above, an order terminating the stay is not one of those ways. The three most common manners in which property is removed from the estate are as follows: (1) when the case is dismissed; (2) when the case is closed; or (3) when the property is sold and the debtor no longer retains an interest in the property [such as a voluntary sale from the debtor to a third party or a foreclosure sale without redemption rights].
The property can also be removed from the estate in a variety of other less common ways including: (1) an order abandoning the property; (2) an order confirming a bankruptcy plan, unless the plan states otherwise [for tactical reasons most debtors state otherwise in their plans and specifically provide that the property does not revest in the debtor until the discharge at the end of the plan]; (3) an order merely closing the estate [as opposed to an order closing the entire case]; and (4) possibly where the property is wholly exempt [such as states that have homestead exemptions, which exempt the property regardless of value]. In addition, some courts have local court rules that close the estate at various other times.
Understanding that property continues to be property of the estate after stay termination also helps to decipher a number of additional issues that can confuse servicers. For example, the reason that payment change notices must continue to be sent after stay termination is because despite the stay termination, the property is still property of the bankruptcy estate. Absent a court order or local court rule specifically waiving the requirement, the notices need to be sent until the property is removed from the estate under one of the methods described above. Similarly, costs and fees need to be updated even after stay termination and until removal of the property from the estate.
The process of closing a bankruptcy file once the stay has terminated is misplaced and dangerous. Servicers should have in place a policy that the bankruptcy rules are to be followed, and the bankruptcy case is to continue to be monitored until the property is no longer property of the estate.
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