Kupfer v. Salma (In re Kupfer)

526 B.R. 812

In re Kupfer.Kupfer, et al., Appellants,

v.Salma, et al., Appellees.

Case No. 14–cv–00668–WHO

United States District Court, N.D. California.

Signed August 26, 2014

Affirmed. Iain A. MacDonald, Matthew Jon Olson, Reno F.R. Fernandez, III, MacDonald Fernandez LLP, Merle Cooper Meyers, Meyers Law Group, PC, San Francisco, CA, for Appellants.

Merle Cooper Meyers, Michele Thompson, Meyers Law Group, PC, Philip Sochet Keith, Attorney At Law, San Francisco, CA, for Appellees.

ORDER AFFIRMING BANKRUPTCY COURT'S ORDER

Re: Dkt. No. 1

WILLIAM H. ORRICK, United States District Judge

INTRODUCTION

This bankruptcy appeal raises the question of the extent to which attorney's fees and costs awarded against the Debtors, Konstantin and Margarita Kupfer, in a pre-petition arbitration proceeding that established the Debtors' obligation to Creditors for the breach of two leases are subject to the Bankruptcy Code's cap on claims by creditors for damages resulting from the termination of a lease.¹ The Hon. Dennis Montali of the United States Bankruptcy Court determined that the fees and costs are not capped. I agree—the fees and costs are collateral damages. The order of the Bankruptcy Court is AFFIRMED.

3. For clarity, “lease termination damages” is used throughout this order to mean “damages resulting from the termination of a lease of real property.” “Claims cap” is used throughout this order to refer to the sum of unpaid rent and rent reserved, by which all lease termination damages are limited.

This latter distinction is at the heart of the dispute. In the bankruptcy proceedings, the Creditors argued that their pre-petition fees did not constitute lease termination damages. The Bankruptcy Court ruled in favor of the Creditors, holding that their claim for fees fell outside the section 502(b)(6) claims cap and allowing the fees in full. The Debtors argue that the fees are more accurately regarded as non-rent lease termination damages, which fall within the cap and are barred in full.

II. NON–RENT LEASE TERMINATION DAMAGES

Non-rent damages potentially fall within the scope of section 502(b)(6). The claims cap amounts to the sum of unpaid rent and rent reserved, but it applies to the “claim of a lessor for damages resulting from the termination of a lease of real property.” 11 U.S.C. § 502(b)(6). These are two distinct concepts. Lease termination may implicate not only past and future rent, but potentially non-rent damages as well. See, e.g., In re Brown, 398 B.R. 215, 218 (Bankr.N.D.Ohio 2008) (“Refitting costs ... clearly fall within [the] category of non-rent claims. Other examples may include: repair costs, brokers' fees and taxes.”). The Debtors claim that the fees and costs are non-rent damages resulting from lease termination. Appellants' Am. Opening Br. 6; Appellants' Reply 2–3.

The Ninth Circuit's case law on section 502(b)(6) confirms that the claims cap applies to both rent and non-rent lease termination damages. In In re El Toro Materials, the Ninth Circuit considered whether tort claims for property damage were subject to the section 502(b)(6) claims cap where the tortious conduct also constituted breach of the lease. El Toro, 504 F.3d at 979. There, the debtor-tenants abandoned one million tons of mining waste on leased property. Id. The debtor-tenants then rejected their lease under section 365 of the Bankruptcy Code after petitioning for bankruptcy. El Toro, 504 F.3d at 979 n. 1; see also 11 U.S.C. § 365(a). The Ninth Circuit Bankruptcy Appellate Panel (“B.A.P.”) concluded that the tort claims, as breaches of the lease, fell within the claims cap and were effectively barred based on In re McSheridan, which held that lease termination encompassed breaches of every covenant in a lease, even those causally unrelated to termination. El Toro, 504 F.3d at 981; In re McSheridan, 184 B.R. 91, 102 (9th Cir. BAP 1995) (“[T]he Panel does not believe that the damages for breach of covenants in this case is a separate claim from the termination damages in general.”).

On appeal, the Ninth Circuit held that this broad interpretation of the claims cap was inconsistent with the plain language of the statute, which specifically refers to damages “resulting from” lease termination. El Toro, 504 F.3d at 980 (“Saddleback's claims for waste, nuisance and trespass do not result from the rejection of the lease—they result from the pile of dirt allegedly left on the property.”). The Ninth Circuit also found this reading inconsistent with the purpose of the statute, which the court said was not to disfavor the claims of creditor-landlords as a class, but simply to restrict rent-based claims whose magnitude might otherwise displace competing creditors. El Toro, 504 F.3d at 980 (“[C]apping rent claims but allowing uncapped claims for collateral damage to the rented premises will ... prevent [ ] a potentially overwhelming claim for lost rent from draining the estate, while putting landlords on equal footing with other creditors for their collateral claims.”). The Ninth Circuit therefore reversed the B.A.P. and overruled McSheridan “to the extent that McSheridan holds section 502(b)(6) to be a limit on tort claims other than those based on lost rent, rent-like payments or other damages directly arising from a tenant's failure to complete a lease term.” Id. at 981–82 (emphasis added).

The Creditors view El Toro as supporting the proposition that section 502(b)(6) imposes a cap on rent reserved alone. Appellees' Br. 5–6. But the Ninth Circuit's holding in El Toro did not purport to eliminate the possibility that non-rent damages can result from lease termination, nor did it remove non-rent lease termination damages from the section 502(b)(6) cap. The Court merely effected a correction of controlling precedent by giving meaning to the plain language of the statute, which speaks of a causal relationship between lease termination and lease damages. El Toro, 504 F.3d at 980. Whereas the claims cap under McSheridan was all-encompassing, El Toro narrowed the scope of the claims cap to damages which, while not necessarily “rent,” are at least causally related to lease termination in the same way as lost rent.⁴

Additionally, a test already exists for determining whether charges constitute rent reserved under section 502(b)(6), and this was not the test the Ninth Circuit used to define lease termination damages in El Toro. The rent reserved test was established in McSheridan, and El Toro did not overrule that portion of McSheridan. McSheridan, 184 B.R. at 99–100 (holding that charges do not qualify as rent reserved unless they are (i) designated as rent or as a tenant's obligation in the lease, (ii) related to the value of the property, and (iii) fixed, regular, or periodic charges). El Toro, on the other hand, provided its own “simple test” for lease termination damages: “Assuming all other conditions remain constant, would the landlord have the same claim against the tenant if the tenant were to assume the lease rather than rejecting it?” El Toro, 504 F.3d at 981. These are two distinct tests for two distinct concepts. Notably, the test for lease termination damages is broader than McSheridan's test for rent reserved, and it encompasses the possibility of both rent and non-rent lease termination damages.

The B.A.P. has rejected attempts to use the test for rent reserved as a broader test for claims allowance under section 502(b)(6). In In re JSJF Corporation, the bankruptcy court disallowed a claim because it did not qualify as rent reserved under the three-part McSheridan test. In re JSJF Corp., 344 B.R. 94, 98, 101 (9th Cir. BAP 2006), aff'd and remanded, 277 Fed.Appx. 718 (9th Cir.2008). The B.A.P. reversed, holding that the bankruptcy court had misread McSheridan as not only defining rent reserved, but also establishing the test by which a creditor-landlord's claims are cognizable. Id. at 101. The B.A.P. explained, “a lessor may have an un-capped claim for something other than damages resulting from the termination of a lease.” Id.

III. THE CREDITORS' FEES AND COSTS

This brings us to the issue at hand. The parties agree that the Creditors' fees arising from the pre-petition arbitration constitute damages. Appellants' Am. Opening Br. 8; Appellant's Reply 1. They also agree that the fees are neither unpaid rent nor rent reserved, and are therefore non-rent damages. Appellees' Br. 7; Appellants' Reply 7–9. The pertinent question then is whether these non-rent damages “result[ ] from the termination of a lease of real property” under 11 U.S.C. § 502(b)(6) or are collateral to it.

A. El Toro provides the controlling test for lease termination damages, but it must be understood in context.

El Toro is the critical case to analyze in order to decide this issue. There, the Ninth Circuit announced what it called a “simple test” to determine the scope of the cap for lease termination damages following a post-petition rejection of the lease: “Assuming all other conditions remain constant, would the landlord have the same claim against the tenant if the tenant were to assume the lease rather than rejecting it?” El Toro, 504 F.3d at 981. The Ninth Circuit explained that the creditors' tort damages existed irrespective of the debtors' decision to assume or reject the unexpired lease in bankruptcy. Id. (“[H]ad El Toro accepted the lease and committed to finish its term[,] [t]he pile of dirt would still be allegedly trespassing on Saddleback's land and Saddleback still would have the same basis for its theories of nuisance, waste and breach of contract.”). Because the damages in El Toro were collateral to lease termination, the creditors' claim fell outside the section 502(b)(6) claims cap.

Both parties interpret this test in their favor. The Creditors argue that their entire fees claim results from breach of the lease rather than termination to place the fees outside the claims cap. Appellees' Br. 10. The Debtors...