Brick and mortar retail businesses, including restaurants, have faced especially difficult challenges during COVID-19. Under the various stay-at-home and shelter-in-place orders that have been issued by state governors, retail stores had no choice but to close for weeks or months. Stores that have been able to reopen are operating at limited capacity due to social distancing guidelines. With either no sales or greatly reduced sales, retail companies have had trouble generating enough revenue to pay rent and many have had to close permanently.
A straightforward reading of the Bankruptcy Code would indicate that this situation cannot be remedied in bankruptcy. Under 11 U.S.C. § 365(d)(3), a debtor in possession is required to timely perform all obligations under any nonresidential lease until such lease is assumed or rejected. Although § 365(d)(3) allows for payment of post-petition lease obligations to be deferred until the 60th day of the bankruptcy case, any further deferment would be contrary to the plain language of § 365(d)(3).
Creative bankruptcy attorneys, however, have filed motions for extended deferral of rent payments under the bankruptcy court’s equitable powers pursuant to 11 U.S.C. § 105(a), which provides that “[t]he court may issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of [the Bankruptcy Code].” Some chapter 11 debtors have also made complementary arguments under 11 U.S.C. § 305, which provides that “[t]he court, after notice and a hearing . . . may suspend all proceedings in a case under [the Bankruptcy Code].”
Using these arguments, debtors have persuaded bankruptcy judges to defer rent payments for extended periods of time in the bankruptcy cases of Modell’s Sporting Goods, Inc. in the District of New Jersey, Pier 1 Imports in the Eastern District of Virginia, and Craftworks Parent, LLC in the District of Delaware, among other cases.
In the opinion in Pier 1 Imports, the bankruptcy court noted that it was not relieving the debtors of the obligation to pay rent and that the rent would continue to accrue. The bankruptcy court further noted that § 365(d)(3) does not provide a remedy to force compliance. The court noted, “[i]f a debtor fails to perform its obligations under § 365(d)(3), all a Lessor has is an administrative expense claim under 365(d)(3), not a claim entitled to superpriority.” In re Pier 1 Imports, Inc., 615 B.R. 196, 202 (Bankr. E.D. Va. 2020) (quoting In re Circuit City Stores, Inc., 447 B.R. 475, 510 (Bankr. E.D. Va. 2009)). The bankruptcy court noted that the Bankruptcy Code requires that all administrative expenses be paid on the effective date of a confirmed plan, so the rent would be paid eventually. 11 U.S.C. § 1129(a)(9)(A). Finally, the bankruptcy court opined that the landlords’ interest in the property was protected as long as the debtors continued to pay insurance, security, utility payments, taxes, and other similar obligations. Based on this rationale, the bankruptcy court allowed the debtors to defer rent payments until May 31, 2020, substantially more than 60 days after Pier 1 Imports filed its bankruptcy petition on Feb. 17, 2020.
These types of orders are especially powerful for debtors (and possibly frightening for landlords) because they likely are not final appealable orders. In fact, 11 U.S.C. § 305(c) explicitly provides that an order suspending proceedings in a bankruptcy case is not reviewable by appeal or otherwise.
If you have questions regarding rent deferrals please reach out to us for guidance. You can also visit our COVID-19 Toolkit for ongoing updates.