August 5, 2020
This article was co-written by Christy Myatt and Law Clerk, Emily Harrison, who clerked for Nexsen Pruet in July 2020.
Receiverships are a flexible, court-supervised tool that can help troubled companies and individuals with business debts avoid a lengthy bankruptcy proceedings. A receiver acts much like a bankruptcy trustee by assuming responsibility for the property or assets of an entity or individual owing business debts. A receiver can assist companies in their return to profitability by quickly liquidating assets and restructuring debt efficiently. Receivers can also be useful to preserve property, enforce judgments, and dissolve insolvent businesses.
Despite their usefulness, there was little statutory guidance for commercial receiverships until recently. On July 1, 2020, Governor Roy Cooper signed the North Carolina Commercial Receivership Act (the “Act”) into law. This provision, Session Law 2020-75, Senate Bill 364, takes effect on January 1, 2021 under the new Article 38A of the N.C. General Statutes. Notably, the Act does not displace statutory or common law principles except where explicitly stated. The Bankruptcy Section of the North Carolina Bar Association formed a committee to revise North Carolina’s previous receivership laws, and Christy Myatt of Nexsen Pruet, PLLC’s Bankruptcy & Financial Services practice group served on the committee and assisted in drafting the bill. Below are some key provisions of the Act:
The Act applies only to (i) an entity such as a corporation, limited liability company, or partnership, or (ii) an individual business debtor. To qualify as an individual business debtor, the individual’s total debt (as determined on the date that the receivership action is commenced) must be comprised of less than 50% consumer debt. A creditor to whom only consumer debt is owed may not file an action or motion to appoint a receiver for an individual debtor.
The Act does not apply to trusts, other than a business trust, or to the estate of a deceased individual, missing person, or absentee in military service. Additionally, the Act does not apply where the receiver is a state agency or where the receiver is appointed for a ward or ward’s estate.
Two Categories of Receiverships – General Receiverships and Limited Receiverships
A general receivership is a receivership over all or substantially all of the nonexempt property of a debtor for the purpose of liquidation and distribution to creditors and other parties in interest. General receiverships include receiverships under the provisions of Chapters 55, 55A, 55B, 57D or 59 of the General Statutes.
A limited receivership is a receivership over finite portions of the nonexempt property of the debtor. Receivership property in a limited receivership is the property of the debtor specifically identified in the order appointing the receiver or in any subsequent order. Limited receiverships include receiverships instituted as a supplemental proceeding to collect on a judgment pursuant to § 1-363 of the General Statutes. Any receivership which is based upon the foreclosure or enforcement of a security agreement, judgment lien, mechanic’s lien, or other lien pursuant to which the debtor or any holder of a lien would have a statutory right of redemption is a limited receivership.
If the order appointing a receiver does not specify if the receivership is a limited or general receivership, it will be classified as a limited receivership unless and until the court designates it a general receivership. A court can convert a receivership to the other type at any time, and a receiver may be appointed before or after a judgment.
Scope and Conditions
A creditor or other party in interest may seek appointment of a receiver by filing a civil action in which the sole relief requested is the appointment of a receiver, or may combine the request for a receiver with a civil action seeking a money judgment or other relief. In the case of a limited receivership, the action may be part of a power of sale or judicial foreclosure proceeding.
The conditions for receivership depend on whether a general or limited receivership is sought. A general or limited receiver may be appointed when an entity or individual business debtor meets any of the following criteria:
- The debtor is insolvent or in imminent danger of insolvency;
- The debtor is not paying debts when they are due;
- The debtor is unable to pay debt;
- The debtor suspends business for a want of funds;
- The debtor has forfeited or suspended legal existence;
- The debtor’s legal existence expired by limitation; or
- The debtor is the subject of an action to dissolve its existence.
Only a limited, not a general, receivership is authorized by the Act when:
- The appointment is necessary to protect the property from waste, loss of spoilage, transfer, concealment, dissipation, or impairment;
- The debtor agreed in a signed record to the appointment of a receiver on default;
- The debtor agreed, after default and in a signed record, to the appointment of a receiver;
- The property and any other collateral held by the secured party are not sufficient to satisfy the secured obligation;
- The debtor fails to turn over to the secured party the collateral or proceeds of collateral the secured party was entitled to collect (including rents); or
- The holder of a subordinate lien obtains the appointment of a receiver for the same collateral held by the secured party.
The Act includes a new provision that allows for a single judge to oversee the receivership. Conducting hearings before a judge who has gained familiarity with a particular case will drastically streamline the receivership process by supplanting the usual process of conducting hearings before whichever judge happens to be assigned to preside over matters calendared on a particular date.
Only a judge of the Superior Court Division may appoint a receiver for an entity, but a judge from either the Superior Court Division or District Court Division may appoint a receiver for an individual debtor. If a receiver is appointed for an individual debtor, or if a limited receiver is appointed for an entity, the presiding judge will retain jurisdiction and supervision of the receiver and the receivership until the receivership is terminated and the receiver is discharged. If a general receiver is appointed for an entity, a judge with special expertise in the area may be needed. In these instances, the receivership will be designated as either an exceptional civil case or a complex business case. The judge of the Superior Court Division who appoints the general receiver will retain jurisdiction and supervision of the receivership until the Chief Justice assigns the case to a Superior Court judge. The court appointing a receiver has the exclusive authority to direct the receiver and determine all controversies relating to the receivership or receivership property.
The Receiver’s Qualifications
Receivers are typically professionals such as attorneys, accountants, or property managers. However, any person may be a receiver. The court must find that the receiver is qualified to serve as a receiver and officer of the court, and they are independent to any party and interest in the underlying dispute. The receiver does not have to be a resident of North Carolina. A person seeking appointment of a receiver may nominate someone to be the receiver, but the court is not bound by the nomination and may select another person or entity as the receiver.
Receiver’s Powers and Obligations
The statutory powers of a receiver include, among others:
- the rights that a person would have if the receiver held a judicial lien on all of the receivership property. As a hypothetical lien holder, the receiver is treated like a creditor whose claim has priority over the claims of all other creditors who do not hold liens when the receivership began;
- the right to take possession of, collect, control, manage, conserve, and protect receivership property;
- the right to assert rights, claims, causes of action, or defenses that relate to receivership property; and
- the right to incur and pay expenses incidental to his or her duties as a receiver.
A general receiver’s broad powers further include:
- the power to sue for and collect all debts, demands, and rents constituting receivership property; the power to compel any person by subpoena with respect to any receivership property or any other matter that may affect the receivership; and
- the power to enter into contracts as necessary for the management of receivership property.
Each receiver has a duty to abide by laws, act in the best interests of the receivership and receivership property, avoid conflicts of interest, and avoid the purchase of or payment for receivership property without approval from the court.
The receiver may obtain credit and incur debt on behalf of the receivership. The receiver may obtain unsecured credit and incur unsecured debt without a court order. However, the receiver can only obtain secured credit and incur secured debt on motion and after notice and a hearing.
The receiver may adopt or reject an executory contract of the debtor that is part of the receivership property with court approval. The court may condition the receiver’s adoption and continued performance of the executory contract on terms appropriate under the circumstances. If the receiver does not request the court’s approval to adopt or reject the executory contract within 90 days after the time of appointment, or such shorter or longer period as the court may order, the receiver is deemed to have rejected the executory contract.
Any provision in an executory contract which requires or permits forfeiture, modification, or termination of the executory contract because of the appointment of the receiver or the financial condition of the debtor does not affect the receiver’s power to adopt the executory contract. If a debtor has a right to assign the executory contract, then beginning at the time of appointment and with court approval, the receiver may assign the contract. There are more in-depth rules if the contract involves real property.
(c) Use or Transfer of Receivership Property
With court approval, a receiver may use receivership property other than in the ordinary course of business. The court may authorize a transfer of property by sale, lease, license, exchange, or other disposition.
Under the Act, the court now has the authority to order that the receiver’s sale of receivership property is free and clear of all liens and all rights of redemption and claims of exemption of the debtor, regardless of whether the sale will generate proceeds sufficient to satisfy fully all liens and claims of exemption on the receivership property, unless all of the following criteria are met:
- A secured party’s lien or the debtor’s claim of exemption in the receivership property to be sold will not be paid in full from the proceeds of the proposed sale;
- The secured party or the debtor files a timely objection to the receiver’s motion to sell the receivership property; and
- The court determines that the amount likely to be received by the objecting person from the proceeds of the receiver’s sale is less than the amount the objecting person would likely receive within a reasonable time in the absence of the receiver’s sale.
A lien on receivership property which is extinguished by sale or transfer will attach to the sale proceeds with the same validity, perfection, and priority the lien had on the receivership property prior to the sale or transfer.
The entry of an order appointing a receiver operates as a stay of an action or proceeding to obtain possession of receivership property, or any act to create or perfect any lien against receivership property. In general receiverships, there are additional automatic stays for 60 days after the receiver is appointed of the commencement or continuation of actions or proceedings against the debtor or the receiver that were or could have commenced before the appointment, as well as stays on efforts to enforce any liens having priority over the rights of the receiver in receivership property.
The stay can be extended if, before the expiration of the 60-day period, the receiver or other party in interest files a motion seeking an order of the court extending the stay, and before the expiration of an additional 30 days following the 60-day period, the court orders that the stay be extended. The court may void any act that violates a stay. The court may also award damages caused by any person who knowingly violates the stay, including attorney’s fees, costs, civil contempt, and sanctions. Upon motion by any party in interest affected by the stay, the court can modify the stay.
If you have any questions regarding the new North Carolina Receivership Act or how you can use receiverships to safeguard property for the benefit of creditors or to liquidate or dissolve a company outside of bankruptcy, please reach out to Christy Myatt or another member of our Bankruptcy & Financial Services Practice Group.