Is Time Really of the Essence? Not in Bankruptcy

September 25, 2017

Few words in real estate transactions inspire as much fear as "time is of the essence." If a closing date or other deadline is time-is-of-the-essence (TOTE), neither party can postpone the closing or extend the deadline without the other party's consent. So if a buyer is unable to timely close (often because they are unable to obtain financing) and the seller is unwilling to postpone the closing, the buyer may forfeit its security deposit and lose a valuable business opportunity. The consequences for failing to meet a TOTE closing are harsh and seemingly unavoidable.

Not so if the buyer files for bankruptcy before the closing date. The Bankruptcy Code allows a debtor/buyer to extend a TOTE deadline to 60 days after a bankruptcy filing. Under §108(b) of the Bankruptcy Code, if an agreement, court order, or nonbankruptcy law sets a deadline "within which the debtor … may file any pleading, demand, notice, or proof of claim or loss, cure a default, or perform any other similar act, and such period has not expired before the date of the filing of the petition," then the deadline to file, cure, or perform is extended to 60 days after the filing of the bankruptcy petition. Bankruptcy courts, including those in New York, have held that a TOTE deadline to close (or perform any other act) under a contract may be extended by §108(b) of the Bankruptcy Code to 60 days after the date of the filing of the bankruptcy petition.^[1]

What if 60 days isn't enough time? If a purchaser files for bankruptcy in New Jersey, the TOTE may be extended much later in time than 60 days. The Bankruptcy Court for the District of New Jersey has held that a TOTE deadline may be satisfied any time before confirmation of a Chapter 11 plan, which may occur years after a bankruptcy is filed.^[2] However, bankruptcy courts in New York have repeatedly rejected the reasoning that underlies the New Jersey bankruptcy court's decision (for you bankruptcy practitioners, it has to do with the principal that a default that is incurable because it is a "historical fact" generally precludes assumption).^[3] No other bankruptcy court opinion has permitted a debtor/buyer to meet a TOTE deadline beyond the 60-day period.

A seller is not powerless to prevent the extension of a TOTE deadline in bankruptcy. A creditor or party-in-interest may move to dismiss a bankruptcy case, convert the case to a Chapter 7 case, or appoint a trustee in a Chapter 11 case. Generally speaking, dismissal, conversion, and appointment of a Chapter 11 trustee require a showing of "cause", including a debtor's "bad faith" in filing for bankruptcy. A court is more likely to convert a case to Chapter 7 or appoint a Chapter 11 trustee rather than dismiss the case, if there are assets available to distribute to creditors.

There are various factors that inform whether to dismiss a case, but the most important factor under the circumstances would be whether the debtor/buyer has creditors (other than the seller) that would benefit from a bankruptcy or, similarly, whether the bankruptcy case represents a two-party dispute.^[4] A "totality of the circumstances" test governs whether to dismiss a case, so counsel can tailor their arguments for or against dismissal based on the particular facts of the case.

If the goal is to prevent the satisfaction of the TOTE deadline, dismissing a case is more preferable than converting a case to Chapter 7, in which a trustee is automatically appointed, or appointing a trustee in a Chapter 11 case (which usually requires a showing of the debtor's malfeasance or incompetence). And conversion of the case or appointment of a Chapter 11 trustee is more preferable than allowing the bankruptcy to proceed, because if a trustee is appointed the debtor/buyer would be deprived of the management and control of its affairs. A trustee will still be able to exploit the 60-day extension, but presumably will be less committed to meeting the TOTE deadline and will not have the same access to capital to allow it to do so. Moreover, the "automatic stay" imposed by the bankruptcy filing may bar the seller from using the security deposit without court approval.

The pressures inherent in TOTE closings can breed ill-informed, and at times, regrettable decisions aimed at avoiding the potentially catastrophic result of failing to timely close. Bankruptcy can provide a "breathing spell" for financially distressed single-asset entities whose entire value is dependent on whether it can meet a TOTE deadline.

Eloy A. Peral is an Associate at Wilk Auslander, and works with trustees, creditors, creditors' committees, and debtors in a wide range of complex bankruptcy cases throughout the U.S.  Eloy may be reached at: 212-981-2316 or via email at: eperal@wilkauslander.com.