Evidentiary & Attorneys' Fees Issues Surrounding Tenant Debtor's Assumption Of Lease.

A recent case involving a tenant debtor's motion to assume its real property lease demonstrates that bankruptcy courts can and will examine evidence in addition to a debtor's financial capabilities and/or payment of a security deposit or guarantee to determine whether a tenant debtor has established "adequate assurance of future performance," which is required under 11 U.S.C. s. 365(b)(1)(C) in order for a debtor to assume a lease agreement. This same case concludes that a bankruptcy court can award attorneys' fees to a landlord if the terms of the lease agreement are broad enough for the landlord to include attorneys' fees incurred in litigating bankruptcy issues.

In the case of In re M. Fine Lumber Co., Inc., 383 B.R. 565 (Bankr. E.D.N.Y. 2008), the chapter 11 debtor moved for leave to assume (but not to assign) its unexpired commercial lease and the landlord objected, arguing that the tenant debtor had not demonstrated adequate assurance of future performance. As correctly noted by the Bankruptcy Court, the term "adequate assurance of future performance" under 11 U.S.C. s. 365(b)(1)(C) is not defined by the Bankruptcy Code and the determination of whether a tenant debtor has provided adequate assurance is to be determined based on the facts and circumstance of each case. The Bankruptcy Court further noted that the factors that bankruptcy courts typically consider include: 1) debtor's payment history; 2) presence of guarantee; 3) presence of a security deposit; 4) evidence of profitability; and 5) money specifically earmarked for landlord. In addition to these factors, the tenant debtor argued that the market value of the lease and the saleability of the lease should be taken into consideration by the Bankruptcy Court in determining whether adequate assurance of future performance has been shown. In that regard, the tenant offered evidence that the lease agreement was roughly 36% below market, and that there was a high demand for property in the area where the leased premises were located. The tenant argued that these facts were a clear indication the tenant debtor would be able to assign the lease at a future date-to the benefit of its creditors. The landlord objected to the introduction of this evidence, contending that these facts could not be utilized as evidence to support the tenant debtor's requirement of demonstrating adequate assurance of future performance. The Bankruptcy Court disagreed with the landlord, concluding that "[n]othing in [Section] 365(b), or in the case law interpreting it, so restricts the evidence which may be considered in this regard" and cited courts from other jurisdictions that had examined this type of evidence in weighing whether a tenant debtor had demonstrated adequate assurance of future performance. Notably however, the Bankruptcy Court did require the tenant debtor to provide a significant security deposit to satisfy the lease obligations during the time it would likely take for the tenant debtor to find a buyer for the lease.

In addition, although there is nothing in Section 365(b) of the Bankruptcy Code that provides a legal basis for a landlord to recover attorneys' fees, the Bankruptcy Court also required- consistent with the broad terms of the lease agreement-the tenant debtor to reimburse the landlord for any reasonable costs and attorneys' fees the landlord had incurred in connection with the motion to compel assumption of the lease. While the Bankruptcy Court required reimbursement of the landlord's attorneys' fees by the debtor for its motion to compel, the Bankruptcy Court did not require the debtor to reimburse the landlord for the attorneys' fees the landlord incurred in contesting the tenant debtor's motion to assume its real property lease- because under the language of the lease, reimbursement of attorneys' fees is only appropriate "if the Landlord [institutes]" the action. Since the landlord was not the party that initiated the motion to assume the lease but was merely objecting to the motion, the Bankruptcy Court concluded that reimbursement was not appropriate under the terms of the lease agreement.

In sum, in connection with the assumption of a lease, it is important to keep in mind that most courts will consider any and all relevant evidence surrounding the facts and circumstances of the lease, including the market value of the lease as well as the saleability of the lease in conjunction with the tenant debtor's payment history, proposed guarantees and proposed security deposits. In addition, tenant debtors and landlords need to be cognizant of the fact that while nothing in the Bankruptcy Code explicitly provides for the recovery of attorneys' fees, language in a lease agreement can be drafted broadly enough to provide a legal basis for a bankruptcy court to authorize reimbursement of a landlord's legal fees incurred in litigating bankruptcy issues such as whether a tenant debtor has provided sufficient "adequate assurance of future performance." From the landlords' perspective, it is important that the lease provisions authorize the recovery of attorneys' fees in order to support a request to the bankruptcy court for such reimbursement.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

Mr Brian Kilmer

Powell Goldstein LLP 

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