Covenants Running with the Land: To Be or Not to Be a Claim

American Std. Energy, Corp. v. Geronimo Holding Corp. (In re Geronimo Holding Corp.), 585 B.R. 138 (Bankr. W.D. Tex. 2017) –

An assignment of a group of oil and gas leases required the debtor to reconvey the leases upon termination of the assignment. Shortly after a plan of reorganization was confirmed the assignor sued the debtor in state court for a declaratory judgment regarding the leases. In response the debtor filed an adversary proceeding in bankruptcy court contending that it owned the leases and the assignor violated a discharge injunction by filing the state court action.

The assignment to the debtor was for a specified term “and for so long thereafter as oil and/or gas is produced from the Assigned Premises.” Upon termination, the debtor was obligated to provide a recordable document reconveying its interest in the leases, and once the debtor was obligated to reconvey: (1) the assignor had a right to enter the premises and conduct operations, and (2) the leased premises were no longer subject to the assignment.

After the debtor filed a Chapter 11 bankruptcy, it identified the leases as assets in its bankruptcy schedules and in the disclosure statement for its plan of reorganization. Shortly after the plan was confirmed, the assignor entered into a lease assignment with a third-party that included two of the leases that were originally assigned to the debtor. When the debtor objected, the assignor filed a state court action seeking a declaratory judgment that the assignment to the debtor had terminated and the debtor breached the contract by failing to reconvey the leases.

The plan of reorganization contained a standard discharge injunction which enjoined “all persons who have held, hold, or may hold Claims or Interests.” The debtor contended that it still owned the leases and the assignor violated the discharge injunction by pursuing the state court litigation. The bankruptcy court declined to determine whether the lease assignment terminated, limiting its review to whether the litigation was barred by the discharge injunction.

The key issue identified by the court was whether the litigation to determine if the lease assignment had terminated was a “claim” as defined by the Bankruptcy Code. If not, there was no violation of the discharge injunction. Section 101 defines “claim” broadly as either a right to payment or a right to an equitable remedy for breach of performance “if such breach gives rise to a right of payment” whether or not the right is reduced to judgment, contingent, matured, disputed, undisputed, secured, unsecured, etc.

Although the term is broadly defined, it is not unlimited. In particular, for the circumstance involving an equitable remedy for a breach, monetary damages must be an alternative or there will be no claim. In fact, some courts have ruled that there is no claim if the monetary damages are inadequate.

After reviewing cases discussing the monetary damages issue, the court went on to note that “claim” also excludes “covenants running with the land, even where the covenant requires the payment of money.” For example, a homeowner’s association collection of post-petition assessments was not a claim since the obligation runs with the land. This was explained as follows:

The “benefits” cannot be “rejected” [like an executory contract] because they are not a function of performance by a party to a contract, but an essential attribute of the estate in land that the owner acquires when she purchases the condominium.

Armed with this analysis, the court concluded that the obligation to reconvey the debtor’s interest in the leases was a binding covenant that runs with the land. So even if there was some sort of monetary obligation, the reconveyance obligation would not be a claim. Further, the assignor’s right to require reconveyance could also be characterized as a right to specific performance. In that case it would not be a claim because monetary damages would not be adequate. The court also considered the right to enter the land and conduct activities as analogous to a noncompete covenant – which many courts conclude are not claims.

Accordingly, the court ruled that the lawsuit seeking a declaration that the lease assignments terminated and requiring the debtor to reconvey the leases was not a claim, and thus was not barred by the discharge injunction.

Another context that leads to a similar analysis is whether the agreement documenting the restrictive covenant is an executory contract that can be rejected by the debtor. While it may seem straightforward to say that enforcement of a covenant running with the land is not a claim and that the agreement containing the covenant is not an executory contract, defining what “runs with the land” may not be that simple.

Vicki R Harding, Esq.

About BankruptcyRealEstateInsights

Vicki R. Harding was a partner in the Detroit office of Pepper Hamilton LLP who moved to Arizona seeking warmer weather. Ms. Harding continues to handle commercial transactions with an emphasis on real estate and bankruptcy issues (but no longer owns a snow shovel).
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