Pre-Petition Waiver of Automatic Stay as "Cause" for Relief from Stay
Over the last several years, lenders have included in loan restructuring agreements certain provisions that are intended by the lender to reduce, if not eliminate, the impact of a post-restructuring bankruptcy filing by the borrower. Typically included in such provisions is the borrower’s waiver of the right of protection against foreclosure, which arises automatically with the filing of a bankruptcy case. Frequently, such waivers are three-tiered: the borrower promises not to file bankruptcy; if the borrower does become a debtor under the Bankruptcy Code, the borrower waives the automatic stay imposed under 11 U.S.C. § 362(a) with respect to any action by the lender as to the lender’s collateral (typically real estate); and if the automatic stay does apply against a foreclosure by lender, the borrower waives the right to defend against a motion for relief from the automatic stay. Notwithstanding the widespread practice of including such provisions in loan-restructuring agreements, the debate continues as to the enforceability of pre-petition waivers upon the borrower’s bankruptcy filing.
In a recent decision, one bankruptcy court reviewed on remand its earlier decision granting the lender’s motion for relief from the automatic stay for "cause" under 11 U.S.C. § 362(d)(1). In the decision of Massachusetts Mutual Life Insurance Co. v. Shady Grove Tech Center Assocs. L.P. (In re Shady Grove Tech Center Associates Limited Partnership), 227 B.R. 422 (Bankr. D. Md. 1998) (Shady Grove II), the bankruptcy court made alternative findings under Section 362(d)(1), thereby attempting to clarify its prior decision granting Massachusetts Mutual Life Insurance Company (Mass Mutual) relief from the automatic stay in In re Shady Grove Tech Center Assocs. L.P., 216 B.R. 386 (Bankr. D. Md. 1998) (Shady Grove I).
Mass Mutual had argued successfully in Shady Grove I that cause for relief from stay arises from the totality of the circumstances under which the Chapter 11 case had been filed, including the debtor’s pre-petition waiver of the right to contest a motion for relief from stay.
The debtor was a limited partnership holding as its sole asset a business office building located in Montgomery County, Maryland. The debtor’s creditors included Mass Mutual, which held a first deed of trust on the debtor’s office building; trade creditors, which were owed for debts arising during the last month of pre-petition operation; a "mezzanine lender" pursuant to a loan arrangement made on the fourth day prior to the filing of the bankruptcy case; a management company, which was owed unpaid management fees; tenants to whom tenant security deposits were owed; and obligations to shareholders.
Four years before the bankruptcy filing, the original loan made by Mass Mutual to the debtor and secured by the debtor’s property went into default. After negotiations, Mass Mutual and the borrower entered into a detailed restructuring agreement. Included among the provisions of the restructuring agreement was the debtor’s three-tiered waiver of the right of protection against foreclosure through the filing of a bankruptcy case.
Courts have uniformly held that a waiver of the right to file a bankruptcy case is unenforceable. Fallick v. Kehr, 369 F.2d 899 (2nd Cir. 1966); In re Freeman, 165 B.R. 307 (Bankr. S.D. Fla. 1994). Furthermore, courts have not permitted pre-petition waivers of bankruptcy protection to be self-executing. In re Darrell Creek Assocs. L.P., 187 B.R. 908 (Bankr. D. S.C. 1995). There is a split of authority, however, as to whether a pre-petition waiver should be given any weight in determining whether the automatic stay should be lifted for cause.
The Shady Grove II court addressed several of the factors previously considered by courts in determining whether a pre-petition waiver of the right to defend a motion for relief from stay should be afforded weight in determining whether cause exists to grant relief from stay. In the view of the Shady Grove II court, the first of the factors is the financial sophistication of the borrower. The lender must prove to the court’s satisfaction that the borrower was in a position to understand the nature and effect of the waiver. The Shady Grove II court made the point that waivers, which are little more than contracts of adhesion, will not be enforced by the court.
The second burden that the Shady Grove II court imposed on the lender was to require the lender to prove that significant consideration was given by the lender for the pre-petition waiver in the context of a restructuring agreement. The Shady Grove II court stated that the party seeking enforcement of the waiver must demonstrate that, under the particular facts of the case, the public policy encouraging workout agreements overcomes the policy of affording a debtor the breathing space provided by the automatic stay. In other words, the lender must show that substantial concessions were obtained by the debtor as part of a pre-petition debt restructuring.
Additionally, the Shady Grove II court observed that, because bankruptcy cases are generally not two-party disputes, a bankruptcy court must examine the effect of the enforcement of the pre-petition waiver upon other parties with legitimate interests in the outcome of the case. In this regard, the court had determined in Shady Grove I that the claims of the mezzanine lender were not material because those claims were artificially manufactured in an attempt to satisfy the requirements of cram down. With respect to the other claims against the debtor, the court noted that the lender had committed to pay all such claims in full, in effect subordinating its secured claim.
The final factor considered by the Shady Grove II court was the circumstances of the parties at the time that the lender seeks to enforce the waiver. If the debtor can demonstrate a substantial change of circumstances, such as reasonable prospect of reorganization within a reasonable time, particularly when material rights of third parties will be affected by the outcome, the court may decline to enforce the pre-petition waiver. In Shady Grove I, the court determined that the debtor’s plan was not likely to be confirmed because of its failure to satisfy the confirmation requirements of Section 1129.
Waivers of rights are inherently suspect. Notwithstanding such suspicion, however, a pre-petition waiver of the right to defend a motion for relief from stay may be accorded weight when a bankruptcy court is considering a motion for relief from stay for cause. Although more weight may be given by the court to the sophistication of the borrower and the concessions given by the lender in exchange for the waiver, the bankruptcy court will likely also consider other factors in determining whether such a pre-petition waiver should play a role in determining whether cause exists to grant relief from the stay. The Shady Grove I and Shady Grove II decisions provide a nice framework for considering how a pre-petition waiver can be constructed and enforced. If the factors discussed in those decisions are satisfied, lenders will have an opportunity to significantly reduce the impact of a borrower’s bankruptcy on a pre-petition restructuring agreement.