M. ELAINE HAMMOND, Bankruptcy Judge.
Debtor Amir Safakish ("Safakish") filed this chapter 13 bankruptcy case in order to reject a Settlement Term Sheet (the "Settlement Agreement") arising from a mediation of state court proceedings related to Safakish's obligations to an owner's association associated with a business condominium. The other parties to the Settlement Agreement are Donald and Sharon Vanni ("Vanni Creditors") and Morgan Hill Vineyard Owners' Association ("Morgan Hill") (collectively referred to herein as "Creditors").
Safakish filed a motion seeking to reject the Settlement Agreement (the "Motion") (Dockets # 74, 80), the Vanni Creditors opposed the Motion (Docket # 77) as did Morgan Hill (Docket # 78). The Motion came on for hearing on August 13, 2018, after which the Court issued a further scheduling order. The Vanni Creditors submitted supplemental briefing opposing the Motion (Dockets # 98, 114). Safakish filed a supplemental brief in support of the Motion (Docket #111). On October 23, 2018, the court held a final hearing on the Motion. The court has considered all the briefing, exhibits, and arguments of counsel at the hearings on this Motion.
The Vanni Creditors filed a Motion to Dismiss the Case (the "Motion to Dismiss") (Docket# 37) on May 17, 2018 and Safakish filed an opposition to the Motion to Dismiss (Docket# 56). The Motion to Dismiss came on for hearing on August 13, 2018, after which the Court issued a further scheduling order. The Vanni Creditors submitted supplemental briefing in support of the Motion to Dismiss (Dockets# 101, 113). Safakish filed a supplemental brief opposing the Motion to Dismiss (Docket# 110). Through their Motion to Dismiss, the Vanni Creditors seek dismissal of this case on the grounds that the plan and petition were not proposed in good faith.
This court has jurisdiction pursuant to 28 U.S.C. § 1334. A motion to reject an executory contract and a motion to dismiss are core proceedings pursuant to 28 U.S.C. § 157(b)(2)(A). This order constitutes the court's findings of fact and conclusions of law in accordance with Federal Rule of Civil Procedure Rule 52, made applicable by Federal Rule of Bankruptcy Procedure 7052.
Safakish filed suit in Santa Clara County Superior Court against the Vanni Creditors and Morgan Hill in 2016
Bankruptcy Code § 365(a)
• Safakish is required to sell his unit in the condominium to a third party by November 1, 2019. If he fails to sell it by this date, it will be sold to the Vanni Creditors for $730,000, free and clear of all encumbrances. In addition, Safakish is to pay $275,000 to Morgan Hill on account of its lien for owners' association assessments. Safakish is further required to prepay 12 months of assessments.
Morgan Hill correctly asserts that it is entitled to receive payment from Safakish under the Settlement Agreement but that receipt of payment does not render a contract executory. See Pacific Exp., Inc. v. Teknekron Infoswitch Corp. (In re Pacific Exp., Inc.), 780 F.2d 1482 (9th Cir. 1986). Its remaining obligation is not due to Safakish, but rather requires it to pay any funds received on account of the settlement directly to the Vanni Creditors.
The Vanni Creditors argue that Safakish repudiated the Settlement Agreement prepetition, resulting in an anticipatory breach of the Settlement Agreement, thereby excusing any future performance. In sum, they assert that the court should apply the analysis developed by the Ninth Circuit in its review of an option contract to purchase real property in Helms, to determine whether the Settlement Agreement is executory. The Court ruled that not all option contracts are executory under § 365, instead the key inquiry is whether further performance is due from each party as of the petition date. Performance based on the discretion of the option holder to exercise his right is not sufficient. Instead the Ninth Circuit found the option holder must exercise the right but not have followed through yet in completing the remaining steps. Helms, 139 F.3d at 706.
A number of courts applied Helms to determine whether materially breached contracts may be executory for purposes of § 365. In re Ebell Media, Inc., 2010 U.S. Dist. LEXIS 151886, *25; Delconte v. Torrez (In re Delconte), 2007 Bankr. LEXIS 4824, *19, 2007 WL 7535060; see also In re Oklahoma Trash Control, Inc., 258 B.R. 461, 464 (Bankr. N.D. Okla. 2001). The parties agree that a number of courts have applied the Helms test in the event of a prepetition breach.
Anticipatory repudiation occurs when the promisor, before committing a breach, makes a positive statement indicating he "will not or cannot substantially perform his contractual duties." Gold Mining & Water Co. v. Swinerton, 23 Cal.2d 19, 29 (1943). Under California law, courts have found that anticipatory repudiation of one party discharges the obligation of the other party to perform. Cent. Valley Gen. Hosp. v. Smith, 162 Cal.App.4th 501, 506 (2008); First Nat. Mortg. Co. v. Fed. Realty Inv. Tr., 633 F.Supp.2d 985, 998 (N.D. Cal. 2009) (applying California law), aff'd, 631 F.3d 1058 (9th Cir. 2011). An express repudiation "must amount to an unequivocal refusal to perform." Taylor v. Johnston, 15 Cal.3d 130, 140 (1975). An implied repudiation occurs when the promisor "puts it out of his power to perform so as to make substantial performance of his promise impossible." Taylor, 15 Cal. 3d at 137. Further, refusal to perform the contract unless the opposing party consents to an additional term constitutes repudiation. Gold Mining, 23 Cal. 2d at 28. For example, in Gold Mining, the parties entered into a lease and before beginning any type of performance, the defendants chose to assign the lease even though it was prohibited. The defendants refused to perform unless the plaintiffs consented to the assignment. The California Supreme Court found that refusal to perform unless the opposing party agreed to a new condition was sufficient for repudiation. Gold Mining, 23 Cal. 2d at 28.
Whether repudiation occurred is a question of fact and intent. Gold Mining, 23 Cal. 2d at 28. The parties stipulated that there are no disputed issues of fact, and that this issue may be decided on the papers filed by the parties and any oral testimony offered at the hearing.
The evidence provided establishes:
As documented in the emails, Safakish clearly and unequivocally informed the Vanni Creditors that he was cancelling the Settlement Agreement and had no intention to perform unless the terms were renegotiated. The Vanni Creditors had no obligation to consent to any additional or different terms. Consistent with Gold Mining, Safakish expressly repudiated the Settlement Agreement.
Implied repudiation looks to a party's conduct and requires that the repudiating party make it impossible to perform. Taylor, 15 Cal. 3d at 137. Safakish has not yet made it impossible to perform—although he seeks to do so through this Motion. As such, the evidence does not establish an implied repudiation of the Settlement Agreement occurred prepetition.
Alternatively, Safakish asserts that his correspondence after the settlement conference should be viewed not as a repudiation but instead an attempt to continue negotiations pursuant to a 3-day grace period he understood would be part of the Settlement Agreement.
Repudiation results in an anticipatory breach of the contract. It necessarily occurs prior to the time for performance under the contract and is a total breach. Gold Mining, 23 Cal. 2d at 29. Therefore, Safakish's breach of the Settlement Agreement occurred prepetition.
Under Helms, the test for determining whether a contract can be executory focuses on whether each party, as of the petition date, has outstanding obligations to perform to avoid materially breaching the contract. Helms, 139 F.3d at 706.
Here, Safakish expressly repudiated the contract by a clear unequivocal statement in his email of March 20, 2018. Exhibit 3. Moreover, all his follow up emails demonstrated a refusal to perform unless the other party consented to different terms. Due to Safakish's repudiation of the Settlement Agreement, he had already materially breached prior to the petition date.
Consequently, Vanni Creditors had nothing left to perform by the petition date. Their obligations were discharged by Safakish's repudiation.
Finally, Morgan Hill's remaining obligation to pay any funds received on account of the settlement directly to the Vanni Creditors does not render the Settlement Agreement executory.
As none of the parties had outstanding obligations to perform as of the petition date, the contract cannot be considered executory under the Helms analysis.
Only executory contracts may be rejected in bankruptcy pursuant to § 365.
Creditors assert that even if the Settlement Agreement is an executory contract, Safakish's attempt to reject it should be denied as not in the best interests of creditors. Whether rejection is in the best interests of creditors is an issue of fact. As an initial matter, the parties also dispute whether as a matter of law the best interests of creditors test applies to rejection of an executory contract in a chapter 13 case. It does.
Section 1322(b)(7) states that a plan may: "subject to section 365 of this title, provide for the assumption, rejection, or assignment of any executory contract or unexpired lease of the debtor not previously rejected under such section." Prior to 1984, the Ninth Circuit's decision in In re Alexander, 670 F.2d 885 (9th Cir. 1982), could be read to "preclude a bankruptcy court from exercising a power of approval over the rejection of a executory contract regardless of whether a Chapter 13 plan has been confirmed." In re Meehan, 59 B.R. 380, 384 (E.D.N.Y. 1986) (rejecting the Alexander interpretation of then applicable § 1322(b)(7)). However, the prefatory phrase "subject to section 365 of this title" was added by the 1984 amendments to the Bankruptcy Code, thereby abrogating Alexander.
Courts have primarily addressed the interplay between § 365 and proposal of a plan pursuant to § 1322 in the context of a chapter 13 debtor seeking to assume a lease through his or her chapter 13 plan. The majority view is that § 365 governs the assumption or rejection of contracts and leases in chapter 13 cases, but that the requirements for assumption or rejection may be satisfied through the plan process. See In re Ford, 159 B.R. 930, 931 (Bankr. W.D. Wash. 1993). The requirements of § 365 primarily relate to assumption (i.e., applicable time limits, prompt cure of prepetition default) but there is no statutory basis to limit § 365's language authorizing a debtor to assume or reject an executory contract "subject to the court's approval" solely to assumption.
Parties stipulated that Safakish was solvent as of the commencement of his bankruptcy case and that the Safakish will be the primary beneficiary if the motion to reject is granted.
It appears rejection will have no effect on secured creditor obligations. However, there will be significant harm to parties of the Settlement Agreement, and a potential impact on the IRS claim. Rejection would lead to the Vanni Creditors bearing the burden of funding the association until Safakish paid the claims in full.
Safakish argues rejection would benefit creditors by preventing an interruption of cash flow from his business. If compelled to abide by the Settlement Agreement Safakish will be required to sell the business location and relocate. Safakish asserts his business income will fund plan payments. However, the schedules and filed claims indicate a broader review is warranted. As set forth in the schedules, Safakish has over $2,000,000 in combined equity in his residence, business property, and a factory. In addition, he owns personal property worth an additional $417,000. Aside from the Vanni Creditors, the only unsecured claim filed in this case was filed by the IRS in the amount of $83,625. Thus, an interruption in business operations will not have a significant impact on Safakish's ability to fund a plan and this argument is not persuasive.
Accordingly, the Motion to Reject is DENIED.
Through their Motion to Dismiss, the Vanni Creditors seek dismissal of this case on the grounds that the plan and petition were not proposed in good faith. § 1307(c) states that after notice and a hearing a court may, for cause, convert the case to Chapter 7 or dismiss the case, whichever is in the best interests of creditors and the estate. Bad faith is "cause" for dismissal under section 1307(c). Jonathan Barnes Leavitt v. Carlos Soto (In re Leavitt), 171 F.3d 1219, 1224 (9th Cir. 1999). Courts apply the totality of the circumstances approach in determining whether cause to dismiss exists. The factors examined are:
Leavitt, 171 F.3d 1219, 1224 (9th Cir. 1999) (supporting citations omitted).
Applying the factors, courts have found that filing bankruptcy with the sole purpose of "trying to reject an executory contract or lease is bad faith, and the rejection will be precluded." In re Silberkraus, 253 B.R. 890, 906 (Bankr. C.D. Cal. 2000) (deciding whether conversion or dismissal was in the best interest of creditors and the estate), subsequently aff'd, 336 F.3d 864 (9th Cir. 2003).
Here, the Vanni Creditors state that Safakish misrepresented his marital status, did not disclose Morgan Hill's claim, and did not disclose his obligations under the Settlement Agreement. Safakish's marital status is not determinative and he did list Morgan Hill on his Amended Schedules E/F with its claim being disputed and mentioned a pending lawsuit with Morgan Hill in his Amended Statement of Financial Affairs.
In addition, the Vanni Creditors assert that Safakish manipulated the Bankruptcy Code by filing this petition for the sole purpose of dealing with a two-party dispute. When a Chapter 13 bankruptcy case essentially boils down to a two-party dispute and other creditors will not be impacted, there is no reason for the debtor to be in bankruptcy. In re Mulivai, 2013 WL 3936381, at *3 (Bankr. D. Haw. July 30, 2013) (finding bad faith where the debtor had no debt, was solvent and the bankruptcy case was a two-party dispute); In re Sherman, 2009 WL 1607856, at *3 (Bankr. D. Ariz. June 9, 2009) (finding bankruptcy case dealing with divorce agreement was a two-party dispute and state court was the more appropriate forum); In re Maghanoy, 2013 WL 3936395, at *3 (Bankr. D. Haw. July 30, 2013).
Safakish entered into a Settlement Agreement with the Vanni Creditors on March 19, 2018. As found herein, Safakish repudiated the contract prepetition. The Vanni Creditors notified Safakish via email at 9:38 a.m. on April 4, 2018, that a hearing would be held in state court on April 5 to shorten the time needed to have a hearing on enforcing the Settlement Agreement. Exhibit 16. Safakish then filed this case on April 4, 2018 at about 5 p.m.
This factor is not applicable as this is the first filing by Safakish.
As discussed above, only five claims were filed by creditors. The most significant impact is on the parties of the Settlement Agreement. The Wells Fargo claim was purchased by a family member, the obligation to Keypoint Credit Union is current and unmatured, and there is a comparatively small claim by the IRS.
Reviewing the facts presented, the court finds the totality of circumstances support a finding of bad faith and warrant dismissal under § 1307(c).
The court further finds that dismissal is in the best interest of creditors and the estate as there is no demonstrated need for bankruptcy.
Thus, the Motion to Dismiss is granted.
For the reasons stated herein, an order denying Safakish's motion to reject and granting the Vanni Creditor's motion to dismiss are entered contemporaneously herewith.
