In the context of loan workouts, lenders often utilize a waiver of the protections of the automatic stay under section 362 of the Bankruptcy Code. The goal is protection of the lender in the event that a borrower later seeks bankruptcy protection. Whether or not these waivers are enforceable in court, however, is an open issue. Unfortunately, there is little uniformity among the circuit courts, or even within some of the circuits themselves. This article focuses on the holdings of courts within the Fourth Circuit, but will conclude with a look at two recent cases from other circuits with conflicting holdings.
Courts that have invalidated pre-petition waivers argue that (1) a waiver of the stay, in the single asset context, is the equivalent of waiving the right to file bankruptcy altogether, which is prohibited; or (2) waivers jeopardize the intended security that the Bankruptcy Code provides for all creditors by favoring one creditor over another creditor.
Those courts that have enforced pre-petition waivers espouse the view that such agreements encourage out-of-court restructuring and settlement. Despite a lack of uniformity, all circuits that uphold pre-petition waivers agree that such waivers are not self-executing. A motion for relief from the stay must still be filed by the creditor in compliance with federal and local rules. The waiver estops the debtor from defending against the motion for relief.
Fourth Circuit Law
Within the Fourth Circuit, courts typically have upheld the enforceability of pre-petition waivers of the automatic stay. Here are several examples:
1. In re Shady Grove Tech Ctr. Assoc. Ltd. P'ship, 216 B.R. 386 (Bankr. D. Md. 1998)
The bankruptcy court validated a waiver of the right to defend against a motion for relief from the stay that was included in a debtor's pre-petition restructuring agreement with a lender. The waiver could be considered as one factor in determining whether cause under 11 U.S.C. § 362(d)(1) exists for relief from stay. The court concluded that "cause has been proven to grant the requested relief from stay based upon . . . [the debtor's] pre-petition agreement to not contest a request for stay relief given as a part of a pre-petition restructuring in which substantial consideration was accorded to the Debtor." The court considered other factors as well, including the fact that "[the debtor] was governed by a financially sophisticated person and fully represented by counsel. No other legitimate creditor's interest exists which is not protected by Lender's subordination/payment agreement."
2. In re Atrium High Point Ltd. P'ship, 189 B.R. 599 (Bankr. M.D. N.C. 1995)
The bankruptcy court validated a pre-petition waiver of the stay that was included in a loan modification agreement. The court held that the debtor's agreement not to object to a motion for relief was bargained for under the modification; the debtor received both a lower interest rate and a five-year extension of the loan. Additionally, despite being a single asset debtor, the debtor enjoyed the various other core protections of the bankruptcy code. Enforcement therefore did not violate public policy concerns. The court indicated, however, that the waiver is just one factor to look at, in addition to considering (i) equity in the collateral, and (ii) the effect of relief from stay on third party creditors. Importantly, the court held that a waiver by the debtor cannot bind third parties. Therefore, in this case, the arguments concerning the waiver could not overcome legitimate objections to the motion for relief that were made by other creditors, and the court denied the motion for relief.
3. In re Darrell Creek Assocs., L.P., 187 B.R. 908, 910 (Bankr. D. S.C. 1995).
The bankruptcy court validated a pre-petition waiver of the stay that was included in a workout agreement with the lender, and the court granted relief from the stay. The court considered seven factors: (1) whether the debtor understood the terms and consequences of the waiver; (2) that waiver of the stay is different from a waiver of the right to file bankruptcy; (3) whether there was some surrender of rights by the lender in exchange for receipt of the waiver; (4) that out of court workouts are to be encouraged; (5) the effect of relief from the stay on other creditors and their objection, if any, to relief; (6) the realistic possibility of an effective reorganization; and (7) balancing of hardship that would result from relief being granted in regard to the debtor's primary asset.
4.In re Cheeks, 167 B.R. 817 (Bankr. D. S.C. 1994)
The bankruptcy court validated a pre-petition waiver of the stay that was included in a forbearance agreement with the lender and granted relief from the automatic stay, finding that the debtor understood the terms and consequences of the agreement when entering into such an agreement. The court indicated that where there is a valid pre-petition waiver—and where there are no objections filed to the motion for relief—the court will grant relief as though the lack of opposition is akin to a default on the part of the responding party. The court relied on the public policy in favor of encouraging out of court restructuring and settlements.
5. In re Riley, 188 B.R. 191 (Bankr. D. S.C. 1995)
The bankruptcy court invalidated a pre-petition waiver of the stay that was included in a forbearance agreement with the lender. The court found that where, as here, (i) the borrower's underlying default that prompted the lender's forbearance had been cured; and (ii) the debtor was unsophisticated and did not understand the terms and consequences of the waiver, the pre-petition waiver is ineffective.
In 2011, the U.S. Bankruptcy Court for the District of Colorado analyzed various cases and held that pre-petition waivers of the automatic stay should be invalidated, unless the waiver was part of a previous bankruptcy proceeding. In re DB Capital Holdings, LLC, 454 B.R. 804, 814 (Bankr. D. Colo. 2011). The court gave various justifications for its holding, relying primarily on a Nebraska decision. See In re Pease, 195 B.R. 431 (Bankr. D. Neb 1996). First, the DB Capital court found that the debtor did not have the capacity to waive the right to defend against the stay, because a chapter 11 debtor-in-possession, which enjoys the protection of the stay, is a separate and distinct entity from the pre-petition debtor. Second, waivers conflict with the bankruptcy code's explicit prohibition on agreements that deprive a debtor of the use and benefit of property of its estate. Further, waivers permit one creditor to opt out of the bankruptcy process to the detriment of other creditors. Finally, in single asset real estate cases, such DB Capital, the waiver of the stay is akin to waiving the right to file bankruptcy, which is prohibited.
On the other hand, in 2012, the U.S. Bankruptcy Court for the Southern District of Georgia found that cases permitting the enforcement of pre-petition waivers appropriate in certain circumstances—citing to Cheeks and Atrium High Point Ltd. P'ship, discussed above—were persuasive and upheld a debtor's pre-petition waiver of the automatic stay. In re Alexander SRP Apts., LLC, No. 12-20272, 2012 Bankr. LEXIS 2466 (Bankr. S.D. Ga. Apr. 21, 2012). The court wrote that "appropriate circumstances" include: (1) the waiver is not part of the initial loan documents; (2) significant concessions granted by the lender; (3) the debtor was a sophisticated, knowledgeable, and experienced borrower; (4) no fraud, mistake, coercion, or any other factor where public policy would negate the waiver; (5) no third parties object to the motion for relief; and (6) lack of equity in the property.
Absent a ruling on the issue of pre-petition waivers of the automatic stay from either the Fourth Circuit, or the U.S. District Courts of Virginia, it is not clear how the U.S. Bankruptcy Courts from the Eastern or Western Districts of Virginia would rule on the issue. The above cases, however, provide guidance and suggest best practices for lenders when confronting the issue. First, a waiver ought not to be a provision of the initial loan documents. Instead, in order to rely on the enforcement of a waiver it should be a provision included with forbearance, loan modification, or work-out agreements, after the borrower becomes distressed. Second, in order to enforce the waiver, the lender should receive consideration in exchange for the debtor's waiver of the stay, such as a reduced interest rate or an extension of the maturity date. Finally, when possible, borrowers should be represented by counsel so that there is little doubt the borrower can later claim that it was not advised of the ramifications of the waiver. While these steps cannot guarantee the enforceability of a waiver of the stay, they will help to advance an argument with a court seeking to uphold the waiver.