Bad Automatic Stay Form & Violating the Spirit Of A Mediation Order (In re Nilhan)

Bad form: Angus cattle on a road at dusk! (Photo by Marilyn Swanson)

By: Donald L Swanson

The opinion is dated November 9, 2020, and appears in the jointly administered cases of In re Nilhan Developers, LLC, Case No. 15-58443 (Northern Georgia Bankruptcy Court) (Doc. 206), and In re Bay Circle Properties, LLC, Case No. 15-58440 (Doc. 1465).

The Issue

The Bankruptcy Court’s opinion identifies the issue it is deciding like this:

  • Did Gateway violate the automatic stay and/or the Court’s order authorizing mediation when it obtained a charging order against Thakkar’s interest in Debtor?

The Facts

Here’s what happened.

Five affiliated Debtors file Chapter 11 bankruptcy and are jointly administered.  Chuck Thakkar is manager of the Debtors, which he owns in various combinations with his wife and children. 

After three years in Chapter 11, the Court appoints a Chapter 11 Trustee for all five cases, due to Thakkar’s improper conduct.

Thakkar and his family are in long-standing litigation with Gateway, which obtained judgments of $2.5 and $12 million against Thakkar and other non-Debtor entities.  Thakkar has testified that he will continue to litigate with Gateway forever.

Gateway continues its collection efforts outside bankruptcy, including pursuit of state court charging orders against Thakkar’s ownership interests in one of the Debtors.

Meanwhile, the Trustee files a Motion for order directing mediation, asking that all disputes, claims, and interests in the bankruptcy cases be mediated, including Gateway’s claims against Thakkar’s interests in the Debtor. No one objects, and the Court grants the mediation Motion.

While the mediation process moves forward, Gateway obtains a charging order in state court against Thakkar’s interest in the Debtor.  Then, when the bankruptcy Trustee expresses concern, Gateway has the charging order vacated.

Then, Thakkar files a Motion in the Bankruptcy Court, requesting sanctions against Gateway for violating the automatic stay and the mediation order.  Gateway objects.  The Bankruptcy Court declines to hear the Motion immediately because, (i) the disputes being raised can be considered in mediation, and (ii) the parties can seek relief, if the mediation is unsuccessful.

The mediation occurs but does not produce a settlement.  So, the Bankruptcy Court holds an evidentiary hearing on Thakkar’s Motion for sanctions, which results in a denial of Thakkar’s Motion.  What follows is a summary of the Court’s denial analysis.

Automatic Bankruptcy Stay–Analysis

The automatic stay is designed to afford debtors “breathing space” to reorder their affairs, make peace with their creditors, and enjoy a clear field for future effort.

If a creditor willfully violates the automatic stay, the Bankruptcy Code establishes a mechanism to both provide compensation for the offense and punish the offender.

–Standing

A party asserting a claim for violation of the automatic stay must have standing to do so.  A debtor’s owners do not have standing to bring claims for stay violations: owners are not within the zone of interests the automatic stay is intended to protect.  At filing of Thakkar’s Motion for sanctions, Thakkar was not a Debtor and was not a creditor of the Debtor—nor was he a manager of the Debtor, since that responsibility had passed to the Trustee.

Thakkar’s alleged grievance (that he incurred fees as a result of the charging order) does not fall within what the automatic stay is designed to protect: namely the preservation of bankruptcy estate assets.

Accordingly, Thakkar lacks standing to pursue a violation of the automatic stay.

–Charging order did not violate the automatic stay

Even if Thakkar had standing to assert a stay violation claim, his sanctions Motion would fail. That’s because a charging order against an owner’s interest in a Debtor does not violate the automatic stay.

Thakkar is not the Debtor, and § 362 does not stay actions against him personally. A charging order against Thakkar’s ownership interest in a Debtor merely encumbers his personal interest—it does not affect property of the estate.

However, while the charging order did not technically violate the automatic stay, Gateway’s conduct is not good form. For example:

  • Gateway knew the Trustee had been appointed and was managing the estate;
  • So it is disingenuous for Gateway to contend it did not know it should have notified the the Trustee of its state court actions; and
  • Gateway’s representations to the state court regarding communications with the Trustee were not complete and perhaps gave the state court judge a false impression that the Trustee had no opposition to the proposed charging order.

–Conclusion on stay violation

The Court concludes that “Gateway’s conduct in obtaining the Charging Order did not violate the automatic stay but was nevertheless bad form.”

Mediation Order–Analysis

Thakkar seeks to hold Gateway in contempt for violating the Mediation Order.

–Legal standards

Civil contempt occurs when there is a violation of a specific and definite court order with regard to which a party has knowledge. Bankruptcy courts also have “the inherent power to enforce obedience of their lawful orders.”

–Findings

The Court finds that Gateway did not violate the stay in the Mediation Order, because the Order was not definite and specific enough to prevent litigation against third parties in state court. Evidence as to Gateway’s motivations would not change such a determination, so the Court declines to consider such evidence.

To establish civil contempt of an order, the moving party must show by clear and convincing evidence the contemnor violated a specific and definite order of the court.  The Mediation Order provides, “all pending motions filed by any of the foregoing and Adversary Proceeding No. 19-5284 are stayed pending further order of the Court.” It did not clearly, definitely, and unambiguously bar Gateway from continuing collection efforts against non-debtors in another court.

–Spirit Violation

While the Court declines to hold Gateway in contempt for violating the Mediation Order, the Court observes that Gateway’s actions violated the spirit of the Mediation Order.

Gateway argues the charging order was essentially worthless, but its actions demonstrate the opposite to be true:

  • the charging orders have repeatedly come up and have, in a large extent, driven Gateway’s actions in these cases; and
  • Gateway’s continued efforts to obtain a charging order after the Mediation Order was entered are part of its continued litigation strategy to gain leverage on the eve of the scheduled mediation.

–Conclusion on Mediation Order

The Court concludes Gateway’s actions do not technically violate the Mediation Order, but that does not make its actions right.  It was wrong for Gateway:

  • to proceed against Thakkar’s perceived interest in the Debtor while knowing he did not have such an interest;
  • to not include the Trustee in communications and notices about charging orders, while aware the Trustee was the representative of the estate; and
  • to go forward and prosecute the motion for charging order on the eve of mediation.

Conclusion

While Gateway’s conduct may be “bad form” under the automatic bankruptcy stay and may be contrary to “the spirit” of the Mediation Order, such conduct is not sanctionable.

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