Vessel Arrest Before and After Bankruptcy—The Automatic Stay

Article by Edward M. Heller and Jan M. Hayden

With the recent economic downturn and the change from an excess demand for fossil fuels to an oversupply, there has been a tremendous reduction in marine transportation requirements. As a result, both charter rates and utilization rates for vessels have rapidly fallen. The cash flow of companies operating vessels has been reduced to the point where there is insufficient net income to meet debt service on obligations that were incurred in a far better economic climate. Consequently, there are many seriously delinquent ship mortgages and unpaid maritime liens on all types of vessels, both those operating offshore, and those which work on inland waterways. This in turn has created difficult choices for borrowers and lenders. This article will address the problems faced by creditors holding ship mortgages or maritime liens on vessels when considering whether to foreclose on their collateral. It will discuss problems that arise both before and after the debtor has filed a petition for relief under Chapter 7 or Chapter 11 of the U.S. Bankruptcy Code.

The principal problem that a seizing creditor faces, whether he is met with a bankruptcy petition filed before or after commencement of his foreclosure action, is the automatic stay provided by section 362 of the Bankruptcy Code. The automatic stay prohibits the commencement or continuation of certain acts against a debtor in bankruptcy, or his estate, and is effective immediately upon the filing of a voluntary or involuntary Chapter 7 or 11 petition. The automatic stay serves an important purpose, as is illustrated by the stock phrase often used by the Wall Stree Journal in its articles on companies which file Chapter 11 cases. It says, in effect, that Chapter 11 is designed to protect the company from its creditors while it works out a plan of reorganization acceptable to the requisite number of them.

Proper bankruptcy administration mandates that creditors must be stayed from collecting their claims against the debtor and his property as of the date that the bankruptcy petition is filed. If there were no stay, the debtor's estate would disappear, and there could be no equality of distribution among the creditors. One of the objects of the Bankruptcy Code is to give the debtor, a fresh start. This would be impossible if actions against the debtor based on prepetition debt were allowed to proceed during or after his bankruptcy case, except in special circumstances.

Sections 362(a)(1), (3), (4), (5), and (6) of the Bankruptcy Code set forth specific actions that may not be commenced or continued after a Chapter 7 or 11 case has been filed and that are relevant to the relief which might be sought by a secured creditor wishing to proceed against his collateral:

(a) Except as provided in subsection (b) of this section, a petition filed under section 301, 302, or 303 of this title, or an application filed under section 5(a)(3) of the Securities Investor Protection Act of 1970 (15 U.S.C. 78eee(a)(3)), operates as a stay, applicable to all entities, of—

(1) the commencement or continuation, including the issuance or employment of process, of a judicial, administrative, or other action or proceeding against the debtor that was or could have been commenced before the commencement of the case under this title, or to recover a claim against the debtor that arose before the commencement of the case under this title;

. . .

(3) any act to obtain possession of property of the estate or of property from the estate . . . ;

(4) any act to create, perfect, or enforce any lien against property of the estate;

(5) any act to create, perfect, or enforce against property of the debtor any lien to the extent that such lien secures a claim that arose before the commencement of the case under this title;

(6) any act to collect, assess, or recover a claim against the debtor that arose before the commencement of the case under this title . . . .

These prohibitions are extremely broad. They stay not only in rem actions against property of the debtor, but also in personam actions against him. Obviously, the arrest of a vessel is prohibited after the owner or charterer has filed a petition under the Bankruptcy Code, no matter what the reason or basis for the arrest. The applicability of the stay provisions to a prebankruptcy arrest depends on the resolution of the conflict between the bankruptcy jurisdiction of the federal courts and their admiralty jurisdiction. If the admiralty jurisdiction which attaches at the time of the vessel's arrest supersedes any subsequently obtained bankruptcy jurisdiction, then obtaining a modification of the automatic stay to permit the continuation of the admiralty proceeding should be a perfunctory matter. If, however, the bankruptcy jurisdiction which attaches when a bankruptcy petition is filed supersedes the prior admiralty jurisdiction, the stay may be modified or lifted only if certain conditions, which will be discussed in more detail below, have been met to permit modification of the stay.

If it is assumed that bankruptcy jurisdiction over a vessel seized pursuant to a prepetition arrest prevails over the prior admiralty jurisdiction, the issues with respect to going forward with the admiralty foreclosure will be the same for a prepetition or postpetition arrest. Of course, if a creditor wishes to make a postpetition arrest, he must obtain modification of the stay in the bankruptcy court. However, if there has been an arrest prior to the bankruptcy filing, there is a question whether relief should be sought from the bankruptcy court or from the district court sitting as a court of admiralty and bankruptcy. The problem becomes even more complicated if the relief from the stay is sought in a different district than that in which the admiralty foreclosure was filed. Under those circumstances, there is no single district court which has both admiralty and bankruptcy jurisdiction over the vessel. However, in a recent decision by Judge Morey L. Sear of the U. S. District Court for the Eastern District of Louisiana, United States v. LeBouf Brothers Towing Co., which maintained the effectiveness of the automatic stay against a prebankruptcy admiralty arrest, there is dictum that the result would be the same even if the admiralty and the bankruptcy cases had been filed in different districts.

Assuming that the bankruptcy case is initiated after vessel arrest, the issues relative to the lifting or modification of the automatic stay may be raised by the debtor as well as the secured creditor. Section 543 of the Bankruptcy Code provides for the turnover of property held by a custodian to the debtor or trustee in a bankruptcy case, and section 542 provides for turnover by a possessor other than a custodian. This process is initiated by the filing of a complaint to turnover against the marshal. Although the issue has not yet been judicially resolved, it would appear that the marshal is not a custodian as that term is defined in section 101(10)(C) of the Bankruptcy Code, for some cases have held that, to be a custodian, the possessor must act as agent for all of the creditors or for the debtor.

The debtor or trustee may attempt to raise this issue by requesting authority to use the arrested vessel in the ordinary course of its business pursuant to the provisions of section 363(c)(1). This section of the Code authorizes the debtor's use of the vessel without notice or hearing, but in cases in which the property is in the custody of a third party, it is not an appropriate or proper process to follow because it is a summary procedure. An adversary proceeding against the custodian or other entity in possession may be the only proper method to obtain possession of the property.


About the Author

Edward M. Heller. Partner, Bronfin, Heller, Steinberg & Berins, New Orleans, Louisiana; A.B. 1946, University of North Carolina; J.D. 1948, Harvard Law School; LL.B. 1949, Tulane University.

Jan M. Hayden. Associate, Bronfin, Heller, Steinberg & Berins, New Orleans, Louisiana; B.A. 1976, J.D. 1979, Louisiana State University.

Citation

59 Tul. L. Rev. 1212 (1985)