DENNIS MONTALI, U.S. Bankruptcy Judge.
On a question of apparent first impression, the court must decide whether claims of landlords for unpaid rent accruing during the interval between the filing of an involuntary petition and the order for relief are entitled to priority under the Bankruptcy Code. For the reasons that follow, the court concludes that they are entitled to gap priority and thus the objections will be overruled.
Petitioning creditors filed an involuntary petition under chapter 7
At all material times Debtor was a lessee or sublessee at various locations. Five landlords or sublessors (or their assignees)(collectively "Landlords") filed claims
The Landlords, their respective leased premises, and the amounts of their Gap Claims are as follows:
Landlord Premise Claim # GAP Claim U.S. Bank National South Hope 570-3 $493,341.62 Association, as Street Trustee, (the Los Angeles, "Trust") CA 1875/1925 Century Century Park 956-2 $104,911.63 Park East Company East ("Century Park Los Angeles, East") CA Dewey & LeBoeuf LLP University 701-2 $266,627 Avenue East Palo Alto, CA The Irvine Company Irvine, CA 618-1 $321,604.41 LLC ("TIC") Knickerbocker San 690-1 $360,090.57 Properties, Inc. Francisco, CA XXXIII ("Knickbocker")
On June 22, 2015, the Official Committee of Unsecured Creditors (the "Committee") filed objections to the Gap Claims. Allan B. Diamond, the chapter 11 trustee, has joined the Committee's objections, but only as to The Trust, Century Park East and TIC. The objections focus only on the assertion of statutory priority for the claims.
The objections came on for hearing on July 30, 2015. After considering the arguments of counsel and the documentary evidence
The Committee argues that when the Debtor entered into the several leases at issue, the Gap Claims arose. If this is so, then section 502(f) is of no help to the Landlords because it only applies to claims arising in the ordinary course of a debtor's business or financial affairs after the commencement of the case.
This cannot be the law, based both on policy and a fair reading of the Bankruptcy Code. First, as a policy matter there is no hint that Congress meant to exclude landlords (or others who have ongoing contractual relationships with debtors when involuntary petitions in bankruptcy are filed against them). Nor has the Committee cited any convincing authority for this extraordinary proposition. Gap priority provides an inducement 5 * * * * * 11 and a protection for parties who deal with involuntary debtors. As one court noted:
In re Hanson Indus., Inc., 90 B.R. 405, 413 (Bankr.D.Minn.1988)(emphasis added); see also In re Manufacturer's Supply Co., 132 B.R. 127, 129 (Bankr.N.D.Ohio 1991).
There is another critical policy-based question lurking here as well. That is, what is a debtor to do when faced with giving up defending an involuntary petition to cut off the accrual of priority claims? The short answer (other than simply to pay those claims as they become due) is to assess promptly whether an order for relief is inevitable and prompt rejection makes sense. If that is the case, a debtor would be well-advised not to fight, but instead do what Debtor did here (but more
Turning to the Bankruptcy Code, the definition of "claim" in section 101(5) is very expansive, extending to rights to payment of money even when those rights are contingent or unmatured. Still, when Debtor entered into the leases, regardless of how long ago, no Landlord then had a claim for rent accruing during the gap period. Perhaps a breach of a lease by Debtor and a termination of the lease by its landlord before the Petition Date would necessarily require measuring the two month gap period as part of the lost future rent calculation to determine the breach claim, but that is not the situation here. And although the Landlords' claims include some pre-petition amounts, the only time rent became due post-petition was, to state the obvious, when it became due—during the gap period. That is when the Gap Claims arose.
While the precise question of gap priority for landlords claims may not have been addressed in other reported decisions, some courts have come close and their views are consistent with the result the court reaches here. For example, in addressing whether a landlord's gap claim was subject to the limits of section 502(b)(6), a district court stated:
New Valley v. Corp. Prop. Assoc. (In re New Valley Corp.), 2000 WL 1251858 (D.N.J. Aug. 31, 2000) at *19.
The court in In re CSVA, Inc., 140 B.R. 116 (Bankr.W.D.N.C.(1993)) was faced with the question of whether landlords with post-petition, pre-rejection administrative rent claims were entitled to rent pursuant to their leases or were limited to the storage value of their leased premises. Because the case had begun as an involuntary chapter 7, then eleven days later was converted to chapter 11, then a month later was converted back to chapter 7, there were three levels of priority:
Id. at 118.
Since the court had no information whether there were sufficient assets to pay administrative claims in full, it made no further analysis beyond the issue squarely presented. Thus there was no discussion of how to determine the amount of the gap
In rejecting a preference claim, the Ninth Circuit Bankruptcy Appellate Panel held that lease payment obligations arise when they become due and payable because of the contemporaneous manner in which money and services are exchanged and the facile divisibility of the separate rent payments. As a rule, payments apply specifically to the period in which they are paid. In re Upstairs Gallery, Inc., 167 B.R. 915, 918 (9th Cir. BAP 1994). See also In re Clothes, Inc., 35 B.R. 489 (Bankr.D.N.D.1983 (The lessee becomes obligated each month as the rent comes due; in return, the lessor becomes obligated to provide the leasehold).
The Committee also argues that section 502(g)(1) controls here.
The Committee cites several cases, many from the Ninth Circuit, for the general proposition that claims arising from pre-petition events or damages upon rejection lead to pre-petition, non-priority general unsecured claims.
Finally, the Committee argues that the "obligations" to be performed under section 365(d)(3) are different from the "claims arising" under section 502(f). The court understands the canons of statutory interpretation and agrees that "claims" and "obligations" have different meanings but that does not change the result. The failure to perform an obligation as required by section 365(d)(3) does not necessarily give rise to a claim because it may not give rise to a right to a payment of money. Leases frequently contain numerous non-monetary obligations. Payment of rent is one of many obligations to be performed and the failure to perform that obligation gives rise to the Landlord's right to be paid their Gap Claims.
As an alternative argument, the Committee stresses that Debtor was winding down by the Petition Date, having already left some premises, large numbers of employees or partner already gone, and the liquidation well underway. Thus, the argument goes, the Gap Claims arose under circumstances that were wholly unlike the Debtor's normal business, that of a large, national law firm.
The court rejects this argument. All of the leases were entered into as part of Debtor's normal business, and it is normal, or "in the ordinary course of the debtor's business" for the Landlords to have a "right to payment"—a claim under section 101(5)(A)—as the occupancy continues. Stated otherwise, the focus is on the circumstances under which the right to payment of current rent "arises", which is when the occupancy continues, when the status quo vis-a-vis the Landlords continues. See also In re New Valley Corp., 2000 WL 1251858 at *19.
The Committee's argument, to prevail, would have court insert into section 502(f) the following change:
That is not the law. Had Debtor affirmatively abandoned its leased premises and agreed to relief from the automatic stay so the Landlords could terminate the leases and gain possession of them the result might be different. That would likely be such a departure from the normal landlord-tenant relationship that any claim for gap rent would have been extraordinary and not entitled to priority.
The Gap Claims arose in the ordinary course of the Debtor's business and therefore are entitled to priority.
The court is concurrently issuing orders overruling the objections to the Landlords' claims for the reasons stated in this Memorandum Decision.
11 U.S.C.A. § 502.
11 U.S.C.A. § 507.
11 U.S.C. § 502(g)(1).