Kupfer v. Salma (In re Kupfer)

Citations: 526 B.R. 812; 2014 U.S. Dist. LEXIS 119309; 2014 WL 4244019Docket: Case No. 14-cv-00668-WHO

Court: District Court, N.D. California; August 26, 2014; Federal District Court

SummaryOriginalCytator Case TreatmentBackward CitatorAnalysis

EnglishEspañolSimplified EnglishEspañol Fácil

The bankruptcy appeal concerns the attorney's fees and costs awarded to Creditors against Debtors Konstantin and Margarita Kupfer from a pre-petition arbitration related to lease breaches. The Bankruptcy Court ruled that these fees and costs are not subject to the Bankruptcy Code's cap on claims for damages from lease termination, categorizing them as collateral damages. This ruling was affirmed by Judge William H. Orrick.

The Debtors had two commercial leases in Burlingame, California, for which they defaulted on payments. In the arbitration concerning Suite 106, the Creditors were awarded a total of $878,466 for unpaid rent and related fees. For Suite 205, they were awarded $408,933. Additionally, the Creditors received $194,184.18 for attorney's fees and arbitration costs, bringing the total arbitration award to $1,481,583.18. The Debtors filed for bankruptcy under Chapter 11 a month after the arbitration award, and the Creditors subsequently filed a proof of claim based on this award.

Debtors objected to a claim under the Bankruptcy Code's cap for damages from lease terminations, specifically 11 U.S.C. § 502(b)(6). The cap includes unpaid rent before surrender and "rent reserved" calculated at 15% of the remaining lease period. For Suite 106, possession was surrendered on May 2, 2011, resulting in a capped claim of $529,511.43, which includes $241,893 in unpaid rent and rent reserved for 447 days. For Suite 205, surrendered on November 30, 2010, the capped claim is $189,708.33, including $77,527 in unpaid rent and rent reserved for 402 days. The total capped claims for both suites amount to $719,219.76, a figure both parties agree on. The dispute lies in whether $194,184.18 in fees from arbitration falls within this cap. The Bankruptcy Court determined that the § 502(b)(6) cap restricts only future rent claims, classifying the fees as a separate collateral claim not subject to the cap. Consequently, it allowed a total creditor claim of $913,403.94, combining capped rent claims with the fee award. The Debtors subsequently appealed. Under 28 U.S.C. § 158, district courts review bankruptcy court decisions de novo concerning legal issues, while findings of fact are reviewed for clear error. Section 502 allows claims unless objected to, with the cap applying to lessors for damages from lease terminations, covering both unpaid and reserved rent. Unpaid rent is fully claimable, while reserved rent pertains to a fraction of the lease term post-surrender, specifically defined here as 15% of that remaining term.

Unpaid rent and reserved rent together form the total claims cap under 11 U.S.C. § 502(b)(6)(A), which allows claims for damages resulting from lease termination only to the extent they do not exceed this cap. Thus, all other lease termination damages are barred. Claims collateral to lease termination, however, are not subject to this cap and may be fully claimed. In the current bankruptcy case, Creditors argued that their prepetition fees were not lease termination damages, leading the Bankruptcy Court to rule in favor of the Creditors and allow their full claim. The Debtors contended that these fees constituted non-rent lease termination damages, thus falling within the cap and being barred.

Non-rent damages can fall under § 502(b)(6), which applies to lease termination damages including both rent and non-rent claims, such as repair costs and brokers' fees. The Ninth Circuit has confirmed that the claims cap encompasses both types of damages. In the case of In re El Toro Materials, the court determined that tort claims arising from lease breaches were subject to the claims cap, as they were related to the lease termination. The Ninth Circuit found that the broad interpretation of the claims cap was inconsistent with the statute's language, which specifically addresses damages "resulting from" lease termination, asserting that claims like waste, nuisance, and trespass did not result from the lease rejection but from unrelated actions.

The Ninth Circuit determined that the interpretation of section 502(b)(6) should not inherently disadvantage creditor-landlords, but rather limit rent-based claims to prevent excessive claims from undermining other creditors. The court reversed the Bankruptcy Appellate Panel (B.A.P.) and overruled the McSheridan decision to the extent it applied the cap to tort claims beyond those directly related to lost rent or similar payments. The ruling clarified that while McSheridan established a broad claims cap, El Toro refined it to include only damages causally linked to lease termination, which could encompass both rent and non-rent damages. 

A distinct test for determining lease termination damages was introduced in El Toro: whether a landlord would have the same claim if the tenant assumed the lease instead of rejecting it, contrasting with McSheridan's specific criteria for rent reserved. The B.A.P. previously misapplied McSheridan by interpreting it as the sole definition for a landlord's claims, leading to the conclusion that landlords can have uncapped claims for non-rent damages. 

Regarding the Creditors' fees from pre-petition arbitration, both parties agree these fees constitute damages but do not qualify as rent. The central issue is whether these non-rent damages are considered to arise from the termination of a lease under section 502(b)(6) or if they are collateral to it.

El Toro establishes a critical framework for evaluating lease termination damages, particularly in the context of bankruptcy. The Ninth Circuit introduced a "simple test" to determine if a landlord would maintain the same claim against a tenant had the tenant assumed rather than rejected the lease. This test emphasizes that damages claimed by creditors exist independently of the decision to assume or reject the lease. In the El Toro case, damages were deemed collateral to the lease termination, allowing creditors' claims to fall outside the section 502(b)(6) cap on claims related to lease termination.

Both parties in the current dispute interpret this test to their advantage: creditors assert their fees stem from a lease breach unrelated to termination, while debtors contend that all claims are tied to lease termination and thus subject to the cap. However, this analysis overlooks that fees for unpaid rent could arise from separate contractual actions or from pre-termination unlawful detainer claims.

The situation differs from El Toro, where the debtors had the option to assume or reject the lease post-petition. Here, the debtors surrendered the lease pre-petition after an adverse arbitration decision, complicating the application of the "simple test." The test is framed around damages that arise from lease rejection, making it inapplicable to pre-petition awarded damages due to breach.

El Toro further discusses collateral damages, indicating that damages not directly linked to lost rental income are not necessarily subject to the cap. This distinction is crucial, as it aligns with the bankruptcy principle of ensuring creditors receive compensation proportional to their claims. Capping damages based on lost rental income while excluding collateral damages maintains consistency with the goal of fair creditor compensation.

Landlords may assert significant claims for lost rental income and breach of lease provisions in future cases. Limiting recovery for collateral damages to only a portion of lost rent would disadvantage landlords compared to other creditors. Conversely, allowing uncapped claims for collateral damages while capping rent claims aligns with congressional intent by preventing excessive lost rent claims from depleting the estate and ensuring landlords are treated equitably with other creditors regarding collateral claims. 

In this scenario, pre-petition fees and costs are classified as collateral damages, reinforcing landlords' equal standing with other creditors. These fees and costs have a tenuous relationship to the rent owed. Debtors have control over the timing of their bankruptcy filings and the nature of their litigation or arbitration strategies concerning pre-petition lease obligations, impacting landlord damages. If landlords' claims were capped to exclude fees and costs, they would be unfairly disadvantaged compared to creditors with judgments resulting from the debtor's misconduct.

The arbitration panel awarded pre-petition fees, affirming their necessity. The Debtors' strategic choice to delay filing for bankruptcy until after arbitration significantly affected the landlord's damages. While the case of In re MDC Systems, Inc. supports the creditors’ position by permitting claims for fees stemming from a pre-petition judgment, it was distinguished from the current case due to the timing of damages related to lease obligations. Conversely, In re Healthy Hut Inc. capped claims for post-termination fees but lacked a prepetition litigation award for breach.

The Debtors argue against the interpretation of section 502(b)(6), claiming it does not limit lease termination damages but rather all breach-related damages. However, this interpretation raises multiple issues, such as undermining existing legal precedents and providing incentives for debtors to reject beneficial leases to evade liability. Thus, this interpretation of section 502(b)(6) is deemed flawed.

The pre-petition award of attorney’s fees and costs is classified as collateral damages, not subject to the limitations of Section 502(b)(6). The Bankruptcy Court's order is affirmed. The Creditors identified include Karim Salma and Roberta Salma (trustees of the Salma Family Trust), Lindsey S. Bruel, Riyad R. Salma, and Laith K. Salma. According to 11 U.S.C. 502(b)(6)(A), rent reserved under a lease is calculated as either one year or 15 percent (not exceeding three years) of the remaining lease term. In this case, 15 percent corresponds to 447 days for Suite 106 and 402 days for Suite 205, which is greater than one year but within the three-year limit. The order specifies "lease termination damages" as damages from lease termination and defines "claims cap" as the total of unpaid rent and reserved rent, which limits lease termination damages. The Debtors argue that El Toro overruled McSheridan regarding specific tort claims only, but the reasoning also applies to the Creditors’ claims for attorney's fees and arbitration costs. The Ninth Circuit has rejected any interpretation of Section 502(b)(6) that limits tort claims beyond those related to lost rent or similar payments arising from a tenant's lease termination.