Managing repossessions and consumer bankruptcy in wake of Chicago v. Fulton

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A recent U.S. Supreme Court decision has shed light on auto lenders’ ability to repossess vehicles from consumers in bankruptcy, and has also exposed the need for lenders to update their policies to avoid potential lawsuits.

The February decision in City of Chicago v. Fulton clarified that lenders who repossess a vehicle before the borrower files for bankruptcy are not required to turn over the repossessed vehicle as soon as a bankruptcy petition is filed. That decision, however, did not address other gaps that could open lenders to a new wave of litigation, especially as repossessions tick up as pandemic-related assistance ends.

In this webinar, part of a quarterly series presented by Auto Finance Excellence, Rudy Cerone, bankruptcy and creditors’ rights attorney at McGlinchey, discusses why the Supreme Court’s decision is good for auto lenders and highlights other potential areas of exposure for lenders.

Video Transcript:

Editor’s note: This transcript has been generated by software and is being presented as is. Some transcription errors may remain.

Amanda Harris 00:11
Hello, everyone and welcome to our second quarter webinar presented by auto finance excellence, a sister service to auto finance news and inter industry source for best practices and actionable advice for auto finance professionals. Amanda Harris, Associate Editor for auto finance news and your moderator for today. So thank you for joining us today and watching this webinar. Auto Finance excellence through the generous support of Nova tech, McGlinchey and mychart group provides members with an unparalleled opportunity to gain professional developmental and networking resources in this competitive industry. We intend for auto finance excellence not only to guide industry executives, but to inspire them to greater success. Joining me today is Rudy Cerone, member at McGlinchey. Rudy is based in the New Orleans office and practices with McGlinchey’s bankruptcy and creditors’ rights practice group. Right now repossessions are top of mind for auto lenders as payment assistance provided to consumers during the pandemic comes to an end. Compliance and repossession practices also go hand in hand as mandates vary from state to state to state and repossession action is made even more complicated when consumers are in bankruptcy. So where do you thank you so much for joining us today and we’re going to dive into that important topic and all the nuances there. So to start, why don’t you just tell us a little bit about your background?Rudy Cerone 01:37
Sure, Amanda, thank you very much. I appreciate the opportunity to present today. Um, as you said, I’m a bankruptcy lawyer. I’ve been with McGlinchey since the early 1980s. I am a member of the bar in here in Louisiana, as well as in California. I’ve been a certified specialist in business bankruptcy law since 1993. I’m a member of the American College of Bankruptcy since 2001, and have been very active in the American bankruptcy Institute, which is a national insolvency organization. Fact I served as a commissioner on a recent study group called the Commission on consumer bankruptcy for the ABI and we produce a very sizable report for changes in best practices, possible changes in the rules and the bankruptcy code as well. So I’ve been doing this for a long time. And and I look forward to to presenting today. Great. Well, thank you so much. We look forward to talking with you about this to kind of set the stage and start us off. Can you just explain some of the challenges that repossessions present especially when you know consumers are in bankruptcy and just some of the things that auto lenders should take out? Sure, um, bankruptcy is kind of unique in that it’s a federal law that affects state law rights that the lenders might have under their loan and security documents concerning the the vehicles that they finance. It’s designed to be a collective collection proceeding. So it affects the rights of both debtors and creditors. One of the bedrock protections that is afforded to debtors after they file bankruptcy is what we call the automatic stack. And that’s basically an injunction that is in the bankruptcy code that does a number of different things, it prevents the continuation of any proceedings that would have been filed before the bankruptcy such as a judicial replevin or or some some such thing or or a deficiency proceeding. On a note, it prevents the enforcement of any judgment that was obtained before the bankruptcy was filed. It prohibits attempts to possess or control property that the debtor owned at the time that he or she filed bankruptcy, you also cannot create perfect or enforce a lien after the bankruptcy is filed. And you cannot set off any debts that that are owed to the debtor against debts that are owed to the lender as a result of the bankruptcy. So that’s that’s a very broad and a very fundamental protection that is given to debtors when they file bankruptcy and it’s It’s you It’s enforced pretty rigorously by the bankruptcy courts around the country.Amanda Harris 04:46
Thank you for that it kind of nice setting the scene for how important Today’s topic is. So I know recently there was, you know a case that really touched on on this topic and in our industry. You

Rudy Cerone 05:00
The recent city of Chicago versus Fulton decision, can you kind of go through that and just what that means for for auto lenders? Sure, um, the city of Fulton cases kind of unique in that the city of Chicago is very aggressive with its tickets, parking tickets and enforcement. Of those, in fact, it gets a sizable portion of its annual revenue that goes to the city from from parking enforcement funds. And what had happened in Chicago is borrowers and owners of vehicles that racked up a sizable deficiency with the City of Chicago would have their vehicles repossessed and put into impound. And the lawyers that are on the debtor side and the consumer cases, started filing chapter 13 bankruptcy cases for these debtors, and showing up to the city and saying here, just file bankruptcy, give me my car back. Right. So it wasn’t that the city of Chicago was a lender that had a security interest in the vessel in the in the vehicle, it’s that they repossessed it and then had a what we call a possessory lien against against the vehicle, where so if they turn the vehicle back over to to the owner, they would lose that lien because they would no longer have possession. Fulton is actually one of four cases that were jointly that were packaged and jointly taken up by the by the Supreme Court. And prior to that time, the lower courts, the bankruptcy courts, district courts and Courts of Appeal had split on whether or not the filing of the bankruptcy and therefore the automatic stay required. Vehicle finance lenders and creditors with possessory lien it’s like the city of Chicago to immediately turn over possession of the vehicle upon the filing of the bankruptcy. The court in in the city of Chicago is the Seventh Circuit, they say yes, the the the city had to turn the vehicle over to the owner. Other courts had gone the other way, it created what we call a split of the circuits, where the courts immediately under the Supreme Court went one way and another went the other way. And so the Supreme Court took the case, in order to resolve that split of authority in the Courts of Appeal. And what the what the issue was in the city of Chicago was under one of those specific subdivisions of the automatic stay that I mentioned at the at the beginning of our talk, and that is whether the mere retention of a repossessed vehicle after the customer files bankruptcy violated the, quote, exercise control over property of the state provision or protection of the automatic stack. What the Supreme Court held is, and it was actually a very short opinion for it’s very important things about eight pages long. And it was unanimous it was eight zero. So there was unanimity amongst the both liberal and conservative judge justices as to what the result should be. And justice Barrett did not participate in the in the decision because she was not yet on the bench when they when the case was argued before the Supreme Court. And what what the court held was that the exercise control provision of the automatic say, did not require a lender who repossesses a vehicle before the bankruptcy to immediately turn it over to the debtor upon the bankruptcy filing, as long as the lender did nothing other than just simply retain possession of the vehicle. That that was not a violation of the automatic stack. that’s it in a nutshell.

Amanda Harris 09:30
But to boil down into that, I’m sure. Perfect. So is there any other you know, changes that come out of this that, you know, auto lenders really should take note of, you know, or you can kind of expand a little bit on? Yes, um,

Rudy Cerone 09:49
as I said the Supreme Court’s decision was short and narrow and narrowly focused. What it did not answer is some of the other protections that are in the automatic stay, then again, that I mentioned earlier. And that is the question of whether the retention of possession is an act to try and force the lien that the the lender has on the vehicle, or whether it’s an attempt to collect the debt that is owed. Those are other subsections of the automatic stay that were not addressed specifically by the Supreme Court. Supreme Court also did not resolve an an unrelated section of the bankruptcy code called the turnover provision of Section 542 of the bankruptcy code. And what that basically says is, when someone files bankruptcy, and another person is in possession of property that is owned by that debtor, that property is supposed to be turned over physically turned over to the debtor, so that the debtor can make use of that property as part of the bankruptcy reorganization efforts. Right. It’s fairly simple in in, in concept. But if the if the third party that has possession of the property is also a lender, and who has a security interest in that, in that property, then the lender is entitled to, to receive what what we bankruptcy lawyers call adequate protection, meaning the debtors use of the of the lenders, collateral has to be protected against, you know, destruction in the value, that kind of thing. And so the Supreme Court did, it specifically declined to to resolve the issue of whether the turnover provision required a lender to give the property back or not. And what we are seeing as a consequence of what the Supreme Court did not resolve that being a couple of the provisions of the automatic stay and and the turnover provision is debtors who are in the position of having had their vehicles repossessed before they file bankruptcy, will file what we call an adversary proceeding, which is a lawsuit inside the bankruptcy and file motions with the bankruptcy court to require the lender to turn over possession of the vehicle. So won’t be automatic, they’ll have to get an order of the bankruptcy court. But these proceedings are usually handled with very rapid attention by the by the bankruptcy courts, think about it chapter 13 debtor is usually just the wage earner who is having financial difficulty, which is why they file bankruptcy in the first place. And they need the vehicle to go to work to earn the money to be able to pay back their debt, their creditors. And so the bankruptcy courts are very sensitive to the need that the debtors have for their vehicles, and therefore are inclined to be very deferential to them and much more difficult on the repossessing lender. And as I mentioned before, lenders are entitled to adequate protection of their interest in the vehicle before they turn it back over to the data. And it needs vehicle repossession situations, the kind of adequate protection that we’re talking about is to make sure that the vehicles insured against loss, right or destruction of some time, that’s at a minimum what the lender should be looking for, in the process after a debtor files bankruptcy, because again, they’re in financial trouble, right? What bills did they pay and what bills did they not pay? And if they didn’t pay their insurance bill, and the vehicles not insured, yet they want possession of it. That’s a good reason for the lender to complain to the court and say, No, I can’t, I can’t relinquish possession of this because I give it to him and he gets in into an accident The next day, I’ve lost my collateral, it puts me in a worse position than I would have been if I just simply retained possession of the vehicle. So those are sort of the dynamics of how these things play out in real time in a bankruptcy of a consumer. And because the Supreme Court did not completely foreclose the possibility of litigation by the debtor to get it back. That’s where we see that it’s headed

Amanda Harris 15:01
We’ve kind of, you know, touched on this a little bit, but to expand on, you know, on this, you know, looking at that decision on its face or you know, almost like a little bit of a positive thing for auto lenders, but then you dive a little further, kind of like you mentioned, there are other areas of exposure that come out of, you know, what maybe wasn’t said in this decision. expand on that a little bit, especially on lenders who may not be able to, you know, return that repossessed vehicle or, you know, may refuse to for some of the reasons that you mentioned.

Rudy Cerone 15:32
Yeah. Yeah, that note, all in all, the Fulton decision was very good for lenders, it was very good, because the alternative was the position taken by the courts, like the Seventh Circuit, that would subject the lender to the requirement to turn it over without adequate protection being provided. And if they didn’t, being subjected to litigation by the debtor or by a trustee to for violation of the automatic stay. And what that involves is not only direct damages, any direct damages that the borrower would have suffered being deprived of the use of the vehicle, but but it also provides for punitive damages for egregious conduct, and for attorneys fees to the debtors Council. So all in all, by getting by settling that that issue, the Supreme Court did lenders a very, very good favor, in interpreting the bankruptcy code like it did. But like I said, because it left open the possibility of violation of the automatic stay under other subsections of the code. And the the turnover provision, if a lender is faced with that, and for whatever reason, cannot or does not want to turn over possession of the vehicle. There are there are defenses that the Fulton case gives to lenders to allow them to assert that position. The whole, the whole rationale of Fulton was, the automatic state freezes the status quo as of the date of the bankruptcy. So if all that the lender does is simply retain possession of the vehicle, and does not done the debtor or try to collect the debt from the debtor, or try to enforce in any way the lien that it has on the vehicle, then by the reasoning of Fulton, there is no automatic stay violation under any of the subsections. Even the ones that the Supreme Court did not address, also on the requirement to turn over a state property. There’s a whole line of decisions that predate Fulton that that say that that is not an automatic requirement of the bankruptcy code, that if a debtor thinks that property should be turned over and it’s not by a repossessing lender, the debtor must go to the court and must get a order of the court requiring the turnover. And during that period of time, the lender, lenders counsel and borrowers counsel, debtors counsel can can discuss things like adequate protection or other protections that the lender may need in order to turn over possession.

Amanda Harris 18:41
Thank you for that really good expansion and really pinpoints what lenders should be should be knowledgeable of one thing I also wanted to touch a little bit more on. You kind of talked a little bit about how bankruptcy is handled kind of differently than maybe most other things, you know, the underlying auto lenders have to deal with. So can you talk a little bit about what the difference is between you know, bankruptcy court and regular court and why that’s kind of significant to know when you

Rudy Cerone 19:10
are? Sure, thanks, Amanda. And then normal a normal vehicle repossession situation under the Uniform Commercial Code. The repossession itself may be done without any court intervention at all. In some states, they have what we call self help repossession, they just go and hire a service to go and pick up the vehicle without any court order or any Sheriff or martial or anything like that in other states that have to go to a court, get a court order and maybe get the sheriff with a with a tow truck to go out and pick it up. And those proceedings regardless of whether it’s self help or whether it’s with judicial intervention, those are always two party proceedings. You’ve got the lender has a security interest in the vehicle, and the borrower who owns the vehicle. So it’s just the two to two parties. And the only questions that really on arise in those types of situations is, what’s the amount of the debt is the debtor in default? Have all the conditions for repossession been fulfilled? You know, is the paperwork correct? And if all of that is correct, the lender has got the right to just simply repossess the vehicle, right, and the courts not going to consider extraneous issues from the borrower as to why he needs his vehicle to go to work. And things such as that, it’s just you owe the money, you haven’t paid it. Default, repossession, that’s it. So it’s a two party dispute, whereas bankruptcy has got multiple parties. Um, first of all, the judges are different. It’s a federal court judge, who is specialized in these types of proceedings, handles probably hundreds of consumer bankruptcies every month, and has seen and heard just about everything, you can think of every kind of excuse every kind of justification, and and knows the the parameters of the law and what can be done and what can’t be done, as well as anybody on the batch. Bankruptcy judges are very, very specialized. So you’ve got that you also have the intervention of a bankruptcy trustee in chapter 13 situation that is supposed to oversee the debtors performance of its obligations under its plan to get everybody else pay. And then of course, you’ve got other creditors, you know, secured creditors have one focus, and usually one focus only, and that’s, where’s my collateral? Is it being maintained and insured? And if not, what’s it worth and how much am I going to get out of it. But then there may be multiple secured lenders, there may be a home lender, you’ve got the vehicle lender, you may have other types of secured debt. And, and their focus is, again, solely on their collateral. The much, much larger group, maybe not in dollar value, but the much larger group is usually the unsecured creditors, the credit card companies, the student loan companies, any any bills that haven’t been paid, that it just run up in the ordinary course, they have a whole different agenda, they want to see this secured creditors get as little as possible. And they will do in appropriate circumstances object to claims that the secured creditor has not perfected or hasn’t done something right, in order to try and free up more money in the process that can flow down to the unsecured creditors. So it’s again, as I said before, it’s a collective collection proceeding. And you got various factions that sometimes are aligned to each other and sometimes are adverse to each other, trying to get a bigger piece of the pie for themselves, then it as a function of the amount of the debt that they have. So that’s how the two differ once two party ones multiple party.

Amanda Harris 23:45
And the other thing that we know plays a big part in everything in auto finance, really, it’s just, you know, states, different states. And you know, in court cases, different judges could impact decision interpretation and bankruptcy. You talk a little bit about, you know, just what could happen there and what others should be should be aware of?

Rudy Cerone 24:05
Sure, I’ll use the Fulton case as an example. Um, as I said before, there was a circuit split, meaning that the bankruptcy courts that and the way it is the supreme court is, as its name implies the supreme authority. And then there are 13 circuit courts below the Supreme Court, then there are hundreds of district courts and bankruptcy courts around the country. Most of the decisions are at the trial court level, at the bankruptcy court level, they never make it farther up the the judicial chain than just simply the bankruptcy court. for a lot of reasons, not not a lot of money, involved time, effort, cost, that kind of thing. So of the of the hundreds of bankruptcy judges that are out there Some of them will take a view of an open question one way, some of them will take the view the other way. And that’s what led those bankruptcy court decisions ultimately led the circuit courts to agree or disagree and come in different different interpretations of the code that ultimately went to Supreme Court and were resolved by thought. So, the lesson here is, local counsel should know what a particular judge is likely to do. And it’s set in a given set of circumstances. That’s why you hire them. And that’s why they that’s part of the job that they should have is to be able to tell the lender what’s likely to happen.

Amanda Harris 25:56
Alright, and then, you know, we’ve kind of gone through that the case you just talked about, are there any others that come to mind that might have some potential implications, you know, future decisions, things that, you know, just kind of need to keep an eye on?

Rudy Cerone 26:15
Sure. Um, as I said, the Supreme Court did not resolve the three open issues to open issues under the automatic stay, and one open issue under the turnover provision of the bankruptcy code. Well, what happens to a case after the Supreme Court renders a decision, but what happens is it goes back down the chain, it goes back in the Fulton case, cases, because they were four of them, all four of them, went back down to the Seventh Circuit, and then went back down to the district court and then went back down to the bankruptcy courts that that they came from. And it’s up to those courts to determine whether the other provisions of the automatic stay apply, and whether the turnover provision applies. And if they come adverse to the city of Chicago, there’s the possibility once again, that the city of Chicago will appeal. And it’ll go back to this to the district court to the Seventh Circuit. And it may, in fact, end up back in the Supreme Court. So we’re watching. There’s been no definitive decisions from those courts subsequent to the remand by the Supreme Court, but we’re watching those and and we’ll be providing any insight with respect to that. Other courts, other bankruptcy courts around the country are going to follow up on this as well. We haven’t seen anything significant just yet. But I would anticipate that there will be some of the bankruptcy courts will try to go right through the hole that the Supreme Court left open, and others will try to shut that door. But it hasn’t trickled down just yet.

Amanda Harris 28:08
That’s definitely something that we’ll have to keep an eye on and everyone in the industry will have to kind of. Alright, well, I think that’s a great place to kind of wrap up and kind of looking toward the future and why this is such an important topic to follow. But thank you again, rooting for you know, this really insightful discussion and really timely as well. And for all our viewers, please check back to auto finance excellence and auto finance news for leading industry insights. And thanks again so much for joining us.

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