Enforceability of a Lease Termination Clause in Proceedings Under Bankruptcy Act, Chapter XI

William & Mary Law Review Volume 16 | Issue 2 Article 8 Enforceability of a Lease Termination Clause in Proceedings Under Bankruptcy Act, Chapter XI Repository Citation Enforceability of a Lease Termination Clause in Proceedings Under Bankruptcy Act, Chapter XI, 16 Wm. & Mary L. Rev. 360 (1974), https://scholarship.law.wm.edu/wmlr/vol16/iss2/8 Copyright c 1974 by the authors. This article is brought to you by the William & Mary Law School Scholarship Repository. https://scholarship.law.wm.edu/wmlr ENFORCEABILITY OF A LEASE TERMINATION CLAUSE IN PROCEEDINGS UNDER BANKRUPTCY ACT, CHAPTER XI Section 70b of the Bankruptcy Act allows an important remedy to the landlord of a bankrupt tenant. The provision states: "[A]n express covenant that. . . the bankruptcy of a specified party... shall terminate the lease or give the other party an election to terminate the same is enforceible."' When the estate of a bankrupt tenant is liquidated and distributed to creditors, such a clause in a business tenant's lease works no unusual hardship upon him.2 Section 302, however, ensures that this landlord's remedy also will be available in proceedings under Chapter XI3 of the Act, insofar "as [it is] not inconsistent or in conflict with the provisions of this chapter .... " Although one purpose of both Chapter XI and Chapter X 5 is the financial rehabilitation of an insolvent debtor, rehabilitation may be impossible if the debtor's lease is terminated as permitted by section 70b. This possibility confronted the Court of Appeals for the Second Circuit in Queens Boulevard Wine & Liquor Corp. v. Blum.6 Although the court attempted to restrict its opinion narrowly, its refusal to enforce a termination clause in the circumstances of the case represents an inappropriate expansion of the equitable powers of a bankruptcy court. The debtor in Queens had entered into a seven-year lease in 1970 for the premises in which it operated a retail liquor store. 7 The lease was a standard form used in the state of New York and included a 1. 11 U.S.C. § 110(b) (1970). Section 70b also gives a trustee in bankruptcy the authority to reject executory contracts, including unexpired leases, within a limited time period. Id. Section 342 of the Act, 11 U.S.C. § 742 (1970), provides that the powers given a trustee by the Act may be exercised by a debtor in possession when no trustee or receiver is appointed. 2. J. MACLAcHLA, HANDBOOK OF THE LAW OF BANKRUprCy 118, 173-74 (1956). Furthermore, unless the lease is carefully drafted, termination by the landlord can work to his own disadvantage because of possible loss of priority under section 63a(9), 11 U.S.C. § 103(a)(9). See 4A COULmR'S ON BANKnRUpTCY 70.44 (14th ed. rev. 1971) [hereinafter cited as CoLLIER]. 3. 11 U.S.C. §§ 701-799 (1970). 4. Section 302 makes all provisions of Chapters I to VII applicable in Chapter XI proceedings so long as they are consistent with the provisions of Chapter XI. 11 U.S.C. § 702 (1970). Section 70b is included in Chapter VII of the Bankruptcy Act, a chapter pertaining expressly to "bankruptcy" proceedings under Chapters I-VII. Despite the different objectives of bankruptcy proceedings and of reorganizations and arrangements, section 70b also is applicable in the latter proceedings. See, e.g., Finn v. Meighan, 325 U.S. 300, 302-03 (1945) (reorganiza- tion); Geraghty v. Kiamie Fifth Ave. Corp., 210 F.2d 95 (2d Cir. 1954) (arrangement). 5. 11 U.S.C. §§ 501-676 (1970). 6. 503 F.2d 202 (2d Cir. 1974). 7. Id. at 203-04. 19741 LEASE TERMINATION clause permitting termination for nonpayment of rent or upon the filing of a petition for adjustment of Queens' debts pursuant to Chapter XI of the Bankruptcy Act.8 One month after filing such a petition, Queens had neither paid certain rent arrearages nor posted a bond for the rent in accordance with the bankruptcy referee's order. With a solvent prospective tenant for the premises available, the landlord served on Queens a notice of termination of the lease. Thereafter, having obtained the required bond, Queens offered to pay the three months rent in arrears, but the landlord rejected the tender and pressed to have the bankruptcy court's stay of eviction proceedings vacated. When the landlord served the notice of termination on Queens, the debtor and its unsecured creditors still were attempting to formulate a satisfactory plan of arrangement. Because the location of the liquor store was an important asset of the business, the plan eventually devised was premised on Queen's continued occupancy of the store for the remaining term of the lease. Although the referee found that the landlord had not waived its option to terminate by having continued to press for rent and that it had exercised the option properly by the notice served on Queens, he ordered that Queens continue in possession and pay to the landlord a sum equal to the rent specified by the lease as compensation for use and occupancy. .Confirmation of the plan of arrangement, however, was adjourned pending determination of petitions for review filed by both the landlord and Queens.9 Even though it upheld the district court decision not to permit the landlord to evict Queens, the Court of Appeals for the Second Circuit conceded: "Bankruptcy forfeiture provisions are necessary for 8. Article 16(b) of the lease provided: "If at the date fixed as the commencement of the term of this lease or if at any time during the term hereby demised... Tenant [shall] make an assignment for the benefit of creditors or petition for or enter into an arrangement this lease, at the option of Landlord, exercisedwithin a reasonable time afternotice of the happening of any one or more of such events, may be cancelled and terminated ... "503 F.2d at 203 n.1. An addendum to the lease provided: "Notwithstanding the provisions of Article '16' hereof, in the event no relief is requested in any of the bankruptcy proceedings set forth in Article '16' hereof to disaffirm this lease, or to reform the same. . . and provided, further, that all rent, additional rent and other charges due from Tenant under this lease are paid promptly when due,. . . this lease shall not be terminated as provided in Article '16' hereof, but shall continue in full force and effect." Id. n.2. 9. Queens petitioned to have the termination clause invalidated; the landlord, for review of the referee's order. 503 F.2d at 204. WILLIAM AND MARY LAW REVIEW [Vol. 16:360 the protection of landlords and generally are enforceable."'" Termination clauses in leases generally have been construed strictly against the creditor-landlord, but enforced routinely," even when the enforcement would vitiate an otherwise feasible plan to rehabilitate the debtor. 2 Because of the ambiguous legislative history" of section 70b and the provisions in sections 10214 and 30215 to the effect that sections governing "straight" bankruptcy should apply in proceedings under Chapters X and XI insofar as they were no (...truncated)