Rents: What Happens to Unclaimed Rents Collected from Property That Is Abandoned?

In re Pena, 600 B.R. 415 (9th Cir. BAP 2019) –

Well over a year after a bankruptcy case was closed, the debtor filed an application with the bankruptcy court seeking to recover unclaimed rent from deed of trust property that had been abandoned by the chapter 7 trustee. Although none of the unsecured creditors who were served with notice of the application objected, the bankruptcy court denied the request, and the debtor appealed to the Ninth Circuit Bankruptcy Appellate Panel (BAP).

The debtor owned 29 rental properties. Although it filed for protection under chapter 11, the court converted the case to chapter 7 due to his unauthorized use of cash collateral. The chapter 7 trustee sought to abandon the properties after being appointed, but the bankruptcy court concluded it did not have jurisdiction to order abandonment while the debtor’s appeals of the conversion order were pending.

Eventually the debtor’s appeals were denied and the trustee was able to abandon the properties. During the interim, the trustee managed the properties and collected rents, which were treated as cash collateral. The trustee attempted to distribute the collected rent to the secured creditor holding a lien on the property that generated the rent. However, some of the secured creditors failed to cash their checks.

At the end of the case, the trustee was left with ~$52,000 in unclaimed rent. As required by section 347 of the Bankruptcy Code, the trustee paid the unclaimed funds into the court. At that time the trustee believed the rents were subject to liens of the secured creditors. So, there was no distribution to the unsecured creditors and the trustee’s final report reflected a no asset case.

When the debtor later applied to recover the rents, he argued that they were no longer subject to claims of the secured creditors since all of the secured claims were either current or had been satisfied through foreclosure. The debtor also argued that the trustee had abandoned the rents along with the properties. He claimed this meant that they were no longer part of the bankruptcy estate and that the debtor was entitled to the rents under state law.

In reviewing the bankruptcy court’s denial of the debtor’s request, the BAP focused on the process of abandonment. The court characterized abandonment as formal relinquishment of property from the bankruptcy estate. This can occur in one of three ways: (1) a trustee may obtain authority to abandon property “that is burdensome to the estate or that is of inconsequential value and benefit to the estate,” (2) other parties may request that the court order abandonment on the same basis, or (3) certain property may be abandoned by operation of law at the end of the case. In this case there was no technical abandonment and no other party requested abandonment, so only the trustee could have abandoned the rents.

According to the debtor, abandonment of the rental properties had to be retroactive effective as of the petition date. The debtor further argued that this divested the bankruptcy estate of any interest in not only the properties but also the rents from those properties. While agreeing that generally abandonment restores the debtor’s interest in property nunc pro tunc as of the petition date, the court rejected the concept that abandonment of the properties automatically resulted in abandonment of the rents. Rather property and rent proceeds are distinct assets and treated independently. So, the question was whether the trustee affirmatively abandoned the rents in addition to the properties.

Abandonment by a trustee requires intent and notice to creditors. In this case the required notice identified only the properties as burdensome and of inconsequential value to the estate. There was no mention of abandoning rents. In fact, the trustee continued to treat the collected rents as part of the bankruptcy estate, attempting to distribute them to secured creditors. Accordingly, the rents were not abandoned since (1) there was no indication that this was the trustee’s intent and (2) there was no notice of the abandonment given to creditors.

While the debtor focused on the fact that the secured creditors no longer had any current interest in the rents, the court pointed out that this was not the issue. The debtor had disclosed $411,000 in unsecured claims that remained unpaid. Since the rents were not abandoned to the debtor and remained part of the bankruptcy estate, the unsecured creditors rather than the debtor were entitled to the rents if the secured creditors had no interest.

Accordingly, the BAP affirmed the bankruptcy court’s order denying the debtor’s attempt to recover the unclaimed rents.

At the end of a chapter 7 case it is not unusual to have uncashed distribution checks for creditors who cannot be located. For anyone who may have wondered what happens to the unclaimed funds, section 347(a) of the Bankruptcy Code provides that 90 days after the final distribution the trustee is required to stop payment on any remaining unpaid checks, with the funds to be paid into the court and disposed of under 28 USC §§ 2041 et seq. Under these provisions the money is deposited in the name of the court, subject to delivery to the rightful owners. If the money is not claimed after five years, it escheats to the United States.

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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