Michigan Receivership Authority: Rejection of Executory Contracts and Leases

Simon PLC Attorneys & Counselors – October 2023 Memorandum

Michigan Receivership Authority: Rejection of Executory Contracts and Leases

Troy, MI – In the realm of distressed assets and court supervised liquidations, the appointment of a receiver is not an uncommon occurrence. A court-appointed receiver is a neutral third party entrusted with the responsibility of managing and safeguarding assets or properties. Typically, a receiver is appointed when there is a commercial loan defaults, partnership dispute, or business dissolution. The authority of the receiver is broad and is based on statutes, case law and the order which appointed the receiver. This authority includes the ability to reject executory contracts and leases which affect the property in dispute.  However, when a court-appointed receiver rejects a lease agreement, it can have significant implications for all parties involved.

Michigan’s Receivership Act, in section MCL 554.1027, specifically provides that a receiver may reject executory contracts, and which includes leases. Limitations to this power apply if: (a) The tenant occupies the leased premises as the tenant’s primary residence; (b) The receiver was appointed at the request of a person other than a mortgage; or (c) The receiver was appointed at the request of a mortgagee and 1 or more of the following apply: (i) The lease is superior to the lien of the mortgage; (ii) The tenant has a non-disturbance agreement; (iii) The mortgagee has consented to the lease, either in a signed record or by its failure timely to object that the lease violated the mortgage; or (iv) The terms of the lease were commercially reasonable at the time the lease was agreed to and the tenant did not know or have reason to know that the lease violated the mortgage.

Several factors may contribute to the receiver’s decision to reject a lease. A receiver may reject a lease if the terms and conditions are financially burdensome or unsustainable. This could include exorbitant rent, unmanageable maintenance costs, or unfavorable escalation clauses. The receiver’s duty is to act in the best interest of the assets or property, and if the lease compromises their value, rejection becomes necessary.  In addition, if the lease agreement fails to meet legal standards or violates local regulations, a receiver may be compelled to reject it. This could involve issues like inadequate insurance coverage, zoning conflicts, or lease terms that contravene applicable laws.

If a receiver rejects an executory contract or lease, they are still responsible to pay the costs, charges and rents set forth in the lease and which accrued during the time of use and occupation of the premises. This basic proposition has been upheld by the United States Supreme Court, as well as other courts appointing receivers. Kneeland v. Am. Loan & Tr. Co., 136 U.S. 89, 98, 10 S. Ct. 950, 953 (1890). Furthermore, the fact that the Receiver may not have been in actual possession of the premises is of no import. Dayton Hydraulic Co. v. Felsenthall, 116 F. 961, 967 (6th Cir. 1902) (“That the receiver was not in the actual possession of the leased premises is not necessarily conclusive against liability. He was constructively in possession, for the decree appointing him described this leasehold by reference, and directed him to take possession”).  These holdings are also supported by the Receivership Act, MCL 554.1022 which states that a Receiver may pay “in the ordinary course of business…expenses incidental to the receiver’s preservation, use, sale, lease, license, exchange, collection, or disposition of receivership property”.

The rejection of a lease agreement by a court-appointed receiver is a consequential event that can significantly impact the involved parties. While the receiver is a fiduciary for the benefit of all partis in the matter, such fiduciary obligations may dictate the rejection of a lease.  This can lead to tenant displacement, additional legal disputes, and potential asset liquidation. It is essential for all parties to carefully consider the terms and conditions of a lease agreement and ensure compliance with legal requirements to minimize the risk of rejection by a court-appointed receiver.

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