In Re Samuel G. Bialac, Debtor. Harsh Investment Corp. And Harsh Building Co. v. Samuel G. Bialac, in Re James T. Bialac, Debtor. Harsh Investment Corp. v. James T. Bialac

Citations: 712 F.2d 426; 8 Collier Bankr. Cas. 2d 1395; 36 U.C.C. Rep. Serv. (West) 1467; 1983 U.S. App. LEXIS 25206; 11 Bankr. Ct. Dec. (CRR) 230Docket: 82-5907

Court: Court of Appeals for the Ninth Circuit; August 4, 1983; Federal Appellate Court

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The case involves the Bialac family, who sold real estate in Arizona to Harsh Building Co. (HBC), a subsidiary of Harsh Investment Co. (HIC), in exchange for a "surplus cash" note. After the Bialacs defaulted on a related loan, HIC obtained a state court judgment against them for $436,455, granting HIC a security interest in the note. James Bialac, one of the debtors, holds a one-sixth interest in the note. Upon HIC's notice to foreclose on the note, James filed for Chapter 11 bankruptcy, prompting HIC to sell a five-sixth interest in the note while preserving James' interest. The bankruptcy court upheld an automatic stay against the sale, stating it violated the stay. However, the Bankruptcy Appellate Panel reversed this decision, leading James to appeal. HIC's judgment against the Bialacs had accrued to approximately $450,000 by May 1981, and after a credit bid of $160,000 for the five-sixth interest, a deficiency of around $300,000 remained.

James Bialac sought to have the foreclosure sale conducted by HIC set aside in bankruptcy court, claiming inadequate notice and that the sale was not commercially reasonable. He also alleged a violation of the automatic stay under 11 U.S.C. § 362, which he argued terminated his rights of redemption regarding five-sixths of the note sold. HIC counterclaimed to lift the stay concerning Bialac's remaining one-sixth interest in the note to pursue foreclosure on that portion as well.

The bankruptcy court determined that the foreclosure sale was conducted reasonably and that notice was adequate. However, it found that the sale of the five-sixth interest violated the automatic stay, affirming Bialac's right to redeem the entire note, which was deemed a valuable property right protected under § 362. The court noted that the ability to lift the stay requires showing that the debtor lacks equity in the property and that the property is not necessary for effective reorganization. It concluded that the value of the note was indeterminate and that lifting the stay was premature pending a separate action determining Bialac's equity. The court also found the note essential for Bialac's reorganization efforts, resulting in the denial to lift the stay.

The court voided the sale, reinstating Bialac's redemption right for 60 days to pay the $460,000 judgment, after which the right would expire, and the foreclosure would be reinstated. HIC sought a stay of this ruling, which was granted, leading HIC to appeal to the Bankruptcy Appellate Panel (BAP).

The BAP reversed the bankruptcy court's decisions regarding Bialac's redemption rights, stating that while they are valuable, they do not receive protection under the automatic stay provisions. The BAP also found insufficient findings from the bankruptcy court regarding HIC's counterclaim to lift the stay on Bialac's one-sixth interest, remanding the case for further evaluation of Bialac's equity in the note.

Bialac subsequently appealed, raising two key issues: whether his pre-foreclosure redemption right qualifies as a property right under § 362, and whether HIC was entitled to lift the stay concerning his one-sixth interest due to lack of equity and necessity for reorganization. The appellate court reviews the bankruptcy court's findings under a "clearly erroneous" standard while applying de novo review for conclusions of law.

Section 362 and Redemption Rights were analyzed to assess if the sale of five-sixths of a note breached the automatic stay. The bankruptcy court first evaluated whether James Bialac had the right to redeem the entire note despite owning only a one-sixth interest. It concluded that he did possess such a right, which was classified as "property of the estate" under 11 U.S.C. § 541. Subsequently, the court found that the sale of five-sixths of the surplus cash note violated the automatic stay provisions outlined in 11 U.S.C. § 362(a).

Arizona law, specifically A.R.S. § 44-3152, allows a debtor to redeem collateral before it is disposed of by fulfilling all obligations secured by the collateral. The bankruptcy court and the Bankruptcy Appellate Panel (BAP) interpreted this statute to grant Bialac a pre-foreclosure right to redeem the entire note. HIC contended that Bialac could only redeem his one-sixth interest by paying the corresponding portion of the debt, arguing against the right to redeem the entire note. However, HIC's acknowledgment that Bialac could acquire a right of contribution from co-debtors if he paid the full judgment debt indicated a concession that undermines their argument against the pre-foreclosure redemption right.

The statute clearly applies to "debtors," and since Bialac is jointly and severally liable for the entire judgment, he qualifies as a debtor under A.R.S. § 44-3105(4). The right to redeem requires satisfying all obligations, which includes those of co-debtors. Historical case law supports the notion that co-debtors traditionally have the right to redeem the whole property. Thus, it was concluded that Bialac had a pre-foreclosure right to redeem the entire note.

Furthermore, both the Bankruptcy Court and BAP recognized Bialac's pre-foreclosure redemption right as an independent property right that falls within the bankruptcy estate as defined by 11 U.S.C. § 541, which encompasses all legal or equitable interests of the debtor at the case's commencement.

Choses in action and claims by the debtor are included within the scope of property governed by Section 541 of the Bankruptcy Code. The courts have interpreted 'property' broadly, encompassing options and contingent interests, even if they are novel or deferred in enjoyment. Legislative history supports this expansive definition, indicating it includes liens and beneficial rights related to third-party property. A pre-foreclosure right to redeem is recognized as a property right under Section 541, applicable regardless of whether it is tied to full ownership or only a fractional interest.

The automatic stay under Section 362(a) suspends actions to gain possession or enforce liens against estate property, providing critical protections to debtors by halting collection efforts and foreclosure actions. The stay aims to ensure equitable treatment of all creditors, preventing preferential treatment of those who act first. However, the stay applies strictly to actions involving property of the estate. Cases illustrate that the stay does not extend to efforts targeting the property of co-debtors if the debtor has no direct interest in that property. For instance, a case involving a bankrupt corporation showed that Section 362 does not protect against foreclosure of property owned by individual guarantors when the debtor corporation lacks interest in that property.

Two aspects of James Bialac's property are at issue: his one-sixth undivided interest in a note and the complete cutoff of his redemption right. Although the sale aimed to maintain his interest, the court found it better for the trustee in bankruptcy to manage the division of property. Additionally, the right to redeem the entire note for $450,000 has been reduced to $300,000 for only his fractional interest.

The protections of Section 362 should extend to these interests, as the Act aims for an orderly disposition of the debtor's property. A broad interpretation of Section 362 is necessary, despite the Bankruptcy Appellate Panel's (BAP) assertion that limitations must be drawn. The bankruptcy court denied HIC's request to lift the stay on Bialac's interest, with the BAP finding insufficient factual support for maintaining the stay. 

To lift the Section 362 stay, a creditor must demonstrate that the debtor lacks equity in the property and that it is unnecessary for reorganization. It is acknowledged that Bialac has no equity if the note's value does not exceed HIC's secured interest, but this valuation is currently disputed in Arizona courts. The bankruptcy court noted Bialac "potentially" has equity and determined that lifting the stay could hinder reorganization efforts.

The BAP argued that the note is a passive investment and that the bankruptcy court must find actual equity to maintain the stay, deeming "potential equity" inadequate. The burden of proof rests with the creditor to show a lack of equity, which HIC has not sufficiently demonstrated, as the question remains litigated.

The court reversed the BAP's decision, affirming the bankruptcy court's ruling, and remanded the case, allowing a 60-day period for Bialac to redeem the note upon issuance of the mandate. This case reflects a prolonged legal battle over real estate ownership, involving multiple court systems over sixteen years. Ongoing litigation includes disputes over interest payments related to the note.