The use of rent receiverships as the means of protecting a mortgagee's collateral pending a foreclosure has become fairly commonplace in Connecticut. Yet, there are few rules governing the structure and scope of the receivership, or its use beyond the context of foreclosure. As a result, mortgagees seeking a receiver often submit fairly detailed proposed receivership orders governing the nature, scope, duties, and rights of the receiver, in an attempt to address every eventuality. Ultimately, courts have been left to their equitable powers in fashioning the "rules of the road" for receivers. This has resulted in inconsistent and varying rules across the state. This will all change in 2022 when the Uniform Commercial Real Estate Receivership Act goes into effect in Connecticut.
Connecticut recently adopted the Uniform Commercial Real Estate Receivership Act ("UCRERA"),1which goes into effect on July 1, 2022. Drafted by the National Conference of Commissioners on Uniform State Laws (the "NCCUSL")2to provide comprehensive guidance regarding receiverships, the UCRERA provides a standard set of rules and procedures for courts, receivers, and practitioners in cases involving commercial real property. Borrowing in no small part from federal bankruptcy law found in title 11 of the United States Code (the "Bankruptcy Code"), the UCRERA sets forth a framework for when a receiver should be appointed, the receiver's duties and powers once appointed, and the impact of the receivership on creditors.
Adoption of the UCRERA will alter receiverships in Connecticut and the existing practice that has developed under the court's equitable powers. Below is a summary of the UCRERA's key provisions, how such provisions will materially change existing practice, and some strategic considerations.
What type of property does the UCRERA apply to?
The UCRERA generally applies to the appointment of a receiver to commercial real property and residential real property with greater than four dwelling units, as well as smaller, income generating residential properties under certain circumstances. The UCRERA also applies to personal property used in connection with the operation of the applicable real property.3 It does not apply to a receivership sought by a governmental unit.
When can a receiver be appointed under the UCRERA?
A court "may" appoint a receiver before judgment enters if it is necessary to protect a party that claims an interest in the property that is the subject of the action, if the property or its income is subject to potential waste, loss, dissipation or impairment, or is the subject of a voidable transaction.4 The UCRERA also generally allows for the appointment of a receiver on equitable grounds.5 After a judgment enters, a receiver may be appointed to enforce a judgment, such as when an execution is returned unsatisfied and the owner of the property refuses to apply the property to satisfy the judgment.6
In a mortgage foreclosure action, the UCRERA provides that a mortgagee is "entitled" to a receiver under any of the following circumstances: (a) a receiver is necessary to prevent waste, loss, transfer, dissipation, or impairment; (b) the mortgagor agreed to the appointment of a receiver upon default; (c) the value of the collateral, including the property, is insufficient to satisfy the mortgage debt; (d) the property owner fails to turnover rents or other proceeds of the property that mortgagee is entitled to collect; or (e) a junior mortgagee obtains the appointment of a receiver.7]
The enumerated grounds for a receiver in a mortgage foreclosure appears to be a departure from existing law, under which courts have discretion to appoint a receiver based on a review of the first three factors: (i) waste or loss, (ii) the loan documents allowed or required the appointment, and (iii) the risk of a deficiency.8 Now, under the UCRERA, the existence of any one of those factors (or the additional enumerated factors) will entitle a mortgagee to the appointment of a receiver.
While existing law permits the appointment of a receiver without notice or an opportunity of the property owner to be heard, under the UCRERA the Court may now condition the appointment of a receiver upon the grant of security by the person seeking the appointment. The UCRERA provides for the use of such security for damages, reasonable attorney's fees and costs arising from an appointment that is later found to be unjustified.
Who can be a receiver under the UCRERA?
The UCRERA provides that a receiver can be an individual or a business entity,9which will do away with some court's requirement that a receiver is an individual.
In another deviation from existing law, the UCRERA requires a receiver to provide a sworn statement that it is not "disqualified" prior to appointment.10 In general, a receiver will be disqualified if it is an affiliate of a party, has an interest materially adverse to any party, has a material financial interest in the outcome of the litigation, has a debtor-creditor relationship with any party, or, except in limited circumstances, holds an equity interest in a party.11 However, a proposed receiver is not disqualified solely based on a prior or unrelated engagement involving a party.12
As is the current practice, the UCRERA authorizes the moving party to nominate a receiver, but the court is free to choose another person to act in that capacity.13
In addition, the receiver must still post a bond, or other court-approved collateral, such as a letter of credit or cash deposit, in an amount specified by the court to secure the faithful discharge of its obligations.14 However, in a break from existing practice, the UCRERA allows the court to authorize the receiver to begin to act in such capacity before posting a bond.15] Finally, UCRERA requires that any claims against the bond be brought within one year of the discharge of the receiver.16
Who pays for the receiver under the UCRERA?
The UCRERA provides that payment of the receiver's reasonable fees and expenses should be paid from the receivership property.17 If the receivership property is insufficient to pay such expenses, the court may order the party that sought the receiver's appointment to pay such fees and expenses.18
What are the receiver's powers under the UCRERA and how does it mirror a trustee under the Bankruptcy Code?
Unless limited by the court, the UCRERA empowers receivers to perform all of the following acts: (i) collect, control, manage, conserve, and protect receivership property; (ii) continue operating a business that is receivership property, including the sale of property in the ordinary course of business; (iii) incur debt and pay expenses in the ordinary course of business; (iv) assert claims, causes of action, and defenses related to receivership property; (v) seek instruction from the court; (vi) subpoena third parties for testimony, the production of records, or inspection of tangible things that may affect the administration of the receivership; and (vii) apply to the court of another state for the appointment of an ancillary receiver for property in such state.19]
The UCRERA requires that, unless subject to a bona fide dispute, all parties in possession of receivership property turn such property over to the receiver upon demand, and the failure to do so can subject such party to civil contempt sanctions.20]
Upon court approval, the UCRERA authorizes a receiver to incur debt, or sell, transfer, or lease receivership property outside the ordinary course of business, make improvements to receivership property, "adopt" or reject executory contracts, pay compensation to itself and its retained professionals, recommend allowance or disallowance of claims, and make a distribution of receivership property.21]
A number of these provisions are quite different from existing practice and mirror, to some extent, provisions of the Bankruptcy Code. While Connecticut courts have allowed the sale of receivership property, such sale would only be free and clear of liens if all lienholders were paid in full from sale proceeds.22 By contrast, the UCRERA authorizes the sale of receivership property free of the plaintiff's lien, as well as any junior liens, and the defendants' right of redemption, with any such liens attaching to the sale proceeds, "even if the sale proceeds are not sufficient to satisfy all obligations secured by the lien."23 In addition, like the protections afforded to asset purchasers under Section 363(m) of the Bankruptcy Code, the UCRERA provides that a modification or reversal on appeal of an order approving a sale does not affect the validity of a transfer to a good faith purchaser unless the court stayed the order pending the appeal.24]
The power to "adopt" and "reject" executory contracts appear to borrow the bankruptcy concepts of "assumption" and "rejection" in Section 365 of the Bankruptcy Code; however, there are some material differences. While the UCRERA does not have the similar "cure" requirement as Section 365(b) of the Bankruptcy Code, the UCRERA provides that the court can condition adoption on "terms appropriate under the circumstances."25 In addition, unlike the Bankruptcy Code's deadlines for contract assumption or rejection, the UCRERA merely provides that if the receiver does not move to adopt or reject the contract within a "reasonable time," the contract shall be deemed rejected.26 And, unlike the Bankruptcy Code provision that overrides certain anti-assignment provisions in executory contracts, the UCRERA allows assignment of contracts only if allowed under applicable state law.27 Similar to the Bankruptcy Code, upon the rejection of a contract, the receiver's right to continue to use receivership property pursuant to that contract terminates and the counterparty to the rejected contract can pursue a pre-receivership rejection damages claim.28 Finally, the UCRERA has a provision similar to the Bankruptcy Code's nullification of so-called ipso facto clauses29by overriding contractual clauses that prohibit the receiver from adopting a contract due to the appointment of a receiver or the owner's financial condition.30]
What are the receiver's duties under the UCRERA?
In general, the UCRERA requires receivers to prepare and retain business records, particularly those relating to the receipt and distribution of receivership property, and otherwise account for receivership property.31Courts may order the receiver to file interim reports and the receiver must file final reports upon completion of its duties.32 Unless excused by the court because the receivership property is insufficient to pay the owner's creditors with liens on such receivership property, the receiver must give notice of its appointment to the creditors of the owner and the deadline by which a creditor must submit a claim to the receiver.33
What are the obligations of the owner of the receivership property under the UCRERA?
The UCRERA enumerates many of the property owner's obligations that would typically be included in a receivership order, namely to: (i) assist and cooperate with the receiver, (ii) preserve and turnover receivership property, and (iii) make available to the receiver the records relating to the receivership property, including passwords or similar authorizations. The UCRERA provides some additional obligations that are less common under existing practice, such as the obligation to be examined under oath concerning the acts, conduct, liability, and financial condition of the owner, and any matter relating to the receivership property. The UCRERA also provides that the owner's knowing failure to comply with its obligations exposes it to damages for actual harm (including attorneys' fees) as well as sanctions for civil contempt.
What impact does the UCRERA have on the receivership property owner's other creditors?
Certain UCRERA provisions affect non-party creditors of the owner. Most of these provisions are modeled, to some extent, on the Bankruptcy Code. First, akin to the power given to a bankruptcy trustee under Section 544 of the Bankruptcy Code, the UCRERA gives the receiver the status of a lien creditor on receivership property, which would have priority over the interests of a non-perfected secured creditor.34
Second, while the UCRERA requires any person holding receivership property to turn it over to the receiver, a creditor holding property where control is necessary for perfection of the creditor's lien rights can retain possession until the court provides the creditor with adequate protection.35
Third, the UCRERA has a slimmed down version of the Bankruptcy Code's automatic stay under Section 362(a). In particular, the entry of a receivership order under the UCRERA enjoins all persons from (i) seeking to obtain possession of, exercise control over, or enforce a judgment against receivership property, and (ii) enforcing a lien securing a pre-receivership debt against receivership property.36 The UCRERA opens the door to a more expansive stay, upon express court order, if necessary to protect property or facilitate the administration of the receivership.37 Similar to Section 362(d) of the Bankruptcy Code, the UCRERA allows stayed parties to seek relief from the stay.38 A violation of the stay can result in the award of actual damages (including attorneys' fees) and sanctions for civil contempt.39
Finally, if the value of the receivership property exceeds the debt secured by liens on the receivership property, the owner's creditors will be required to submit claims in accordance with the instructions provided with the receiver's notice of appointment.40 If the receiver objects to a claim, the creditor will have to litigate the objection before the receivership court.41] Ultimately, if the receivership property is sufficient to satisfy the administrative costs of the receivership (such as the receiver's fees and those of its retained professions) and the claims secured by liens on receivership property, the receiver will make distributions to the unsecured creditors.42
Strategic Considerations
In addition to creating needed uniformity and structure, the UCRERA provides a number of new opportunities and strategic considerations for creditors, a few of which are set forth below:
- Commercial real estate based lenders should strongly consider including a provision in their loan documents that expressly authorizes the appointment of a receiver under the UCRERA upon a default. This will streamline any motion seeking the appointment of a receiver.
- Lenders in a workout of a commercial real estate backed loan may want to use a receivership as a means of realizing on their collateral through a going concern sale when doing so may be cheaper and quicker than a Section 363 sale in a bankruptcy case, or when a voluntary or involuntary bankruptcy filing is not possible.
- Other creditors of the property owner will need to be prepared to protect their rights in connection with outstanding debt or their contractual relationship with the owner similar to how they would act in a bankruptcy case.
- Lenders seeking a receiver on and after July 1, 2022, will need to carefully consider what rights and powers available under UCRERA should be made available to a receiver in their particular case.
In conclusion, enactment of the UCRERA is poised to vastly improve the predictability and administration of commercial real estate receiverships. Whether in aid of, or as an alternative to, foreclosure and collection efforts aimed at distressed real property collateral, it provides creditors with a greater structure not previously existing in Connecticut.
Footnotes
1 Public Act 21-80, H.B. No. 6356 (2021).
3 UCRERA § 4(a) and (b).
4 UCRERA § 6(a)(1).
5 UCRERA § 6(a)(3).
6 UCRERA § 6(a)(2).
7 UCRERA § 6(b).
8 Antonino v. Johnson, 113 Conn. App. 72, 77–78 (2009) ("Our courts have considered a number of equitable factors when deciding whether to appoint a receiver of rents, including: (1) whether waste or loss is occurring; . . . (2) the risk to the foreclosing party that he will recover less than the full amount of his debt, that is, whether the deficiency is certain or only threatened; . . . and (3) whether there are provisions in lending documents that allow or require the appointment of a receiver in the event of the mortgagor's default" [internal citations omitted]).
9 UCRERA §§ 2(11) and (14).
10 UCRERA § 7(a).
11 UCRERA § 7(b).
12 UCRERA § 7(c).
13 UCRERA § 7(d).
14 UCRERA § 8(a), (b).
15 UCRERA § 8(c).
16 UCRERA § 8(d).
17 UCRERA § 20(a).
18 UCRERA § 20(b). If a receiver was appointed while an action was pending to avoid waste, loss, impairment, dissipation, voidable transfer, the party causing such condition may be required to pay the receiver's unpaid fees and expenses. Id.
19 UCRERA § 12(a).
20 UCRERA § 11(a)(2), (d).
21 UCRERA § 12(b).
22 See Melrose v. Indus. Assocs., 136 Conn. 518, 524 (1950) ("We have found no authority in our law which authorizes a court so to deal with the property in receivership as to subject holders of prior liens to loss. In fact our former decisions go far to determine that it cannot do so.").
23 UCRERA § 16(c), (d).
24 UCRERA § 16(f). Good faith is defined as "honesty in fact and the observance of reasonable commercial standards of fair dealing." Id. § 16(a).
25 Id.
26 Id.
27 UCRERA § 17(f).
28 UCRERA § 17(e).
29 In the bankruptcy context, contractual ipso facto clause try to terminate contracts based on a bankruptcy filing, the insolvency, or the financial condition of a debtor. Such provisions are invalidated in bankruptcy cases under 11 U.S.C. § 365(e)(1).
30 UCRERA § 17(d).
31 UCRERA § 12(c).
32 UCRERA §§ 19, 23.
33 UCRERA §§ 20(a), (f).
34 UCRERA § 9.
35 UCRERA § 11(c).
36 UCRERA § 14(a).
37 UCRERA § 14(b).
38 UCRERA § 14(c).
39 UCRERA § 14(f).
40 UCRERA § 20.
41 UCRERA § 20(c).
42 UCRERA § 20(g).
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
