Upon filing a bankruptcy case, “all legal or equitable interests of the debtor in property as of the commencement of the case” becomes the property of the bankruptcy estate. If bankruptcy estate property is to be sold, such a sale is termed a “363 sale,” or a bankruptcy sale. A 363 sale is based on Bankruptcy Code section 363, which governs the sales of bankruptcy estate property, especially when such a sale is outside the ordinary course of business.
When a Chapter 13 or Chapter 7 bankruptcy petition is filed, the case is assigned a Trustee. A Trustee is tasked with administering the bankruptcy estate over the life of the case, which is usually a matter of months for a Chapter 7 filing and either a three or five-year plan for Chapter 13 filing. Chapter 7 is a liquidation or “straight bankruptcy,” so there is usually a sale of some or most of the debtor’s assets. In contrast, Chapter 13 is the “wage-earner’s bankruptcy” so often little or no assets are sold. Assets are usually sold at auction. Unlike sales outside of bankruptcy, 363 sales have significant advantages.
The Bankruptcy Code provides that 363 sales contain certain advantages not available outside of bankruptcy. The following are some of the most significant advantages:
- The ability to sell property of the estate free and clear of liens and interests;
- The ability to sell property co-owned by the debtor and a nondebtor, free of the nondebtor’s interest; and
- The ability to achieve a comparatively high degree of finality of sales.
In addition, the trustee may use, lease, or sell property of the bankruptcy estate regardless of any bankruptcy-triggered contractual provisions that would otherwise prohibit such transaction. For instance, an ipso facto clause, which is a clause in a contract that allows or the termination of the contract upon filing for bankruptcy, thereby, per the terms of the contract, disallowing the debtor to sell the property. Nonetheless, the ipso facto clause is not valid after a bankruptcy petition is filed, so the trustee may sell the property free and clear of liens.
For these reasons, among others, trustees often consider a 363 sale pursuant to be a judicious way to maximize the value of estate property when asserted claims against or interests in the property would otherwise trigger protracted litigation outside of the bankruptcy context. A sale free and clear of interests thus gives a purchaser considerable comfort and presumably enhances the purchase price.
Section 363 Notice to Lienholder Requirement
Section 363 requires that, prior to the sale of asset under 363, the lienholder is notified of such sale. If not notified, the lienholder can challenge the sale of an asset. Specifically, the Bankruptcy Code requires that the sale be authorized, which means that a sale requires notice and a hearing. Thus, if notice is not given to a lienholder, the sale does not satisfy the requirements of the Bankruptcy Code and, therefore, the sale would be invalid.
The Bankruptcy Code provides that a trustee may void a 363 sale or recover damages from a lower price to the sale if the trustee can demonstrate that potential bidders colluded to control the sale price. In addition, the trustee may recover costs, expenses, and attorneys’ fees incurred in avoiding the sale or recovering damages, and the court may award punitive damages against parties to such agreements if they willfully disregarded the law. Note that courts have held that 363 Trustee avoidance actions are typically relevant only when potential bidders make an agreement with the intent to control the sale price; agreements that merely affect the sale price do not fall under 363 Trustee avoidance actions.
Differences Between Chapter 11 and Chapter 13 363 Sales
In general, asset sales and bidding are more commonplace during Chapter 11 than Chapter 13. During Chapter 11 business reorganization, assets are sold as part of that reorganization. In contrast, a Chapter 13 363 sale is sold as part of the plan. Usually, the debtor, who is a wage earner under Chapter 13, will agree to a plan to pay creditors over the life of the bankruptcy. In the meantime, there is a stay on creditor action. As such, a debtor usually has no need to sell assets. If, however, the debtor is having difficulty meeting obligations pursuant to the plan, he or she may feel compelled to sell assets to continue funding the plan. When that occurs, 363 of the Bankruptcy Code will be similar to Chapter 11 requirements.
If you are facing mounting debt and need a fresh start, speak with the bankruptcy law firm of Melanie Tavare, an experienced Bay area bankruptcy attorney.
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