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Landlord's Claim in Bankruptcy Case Puts Its Letter of Credit Proceeds At Risk

By John B. Spitzer

A recent bankruptcy decision makes clear that it is risky for a landlord to file a proof claim in a bankruptcy proceeding when the landlord has substantial security in the form of both a security deposit and letter of credit. If a landlord has drawn down the letter of credit proceeds and withdrawn the security deposit in full after the tenant's default, filing a proof of claim in the tenant's subsequent bankruptcy proceeding may invite a bankruptcy court's consideration of whether those funds are or should be assets of the bankruptcy estate.

In 40 CPS Associates, LLC v. Villano Family Limited Partnership, 2015 U.S. Dist. LEXIS 158033 (E.D.N.Y. Nov. 23, 2015), the district court dismissed CPS Associates' appeal of an order of the bankruptcy court authorizing a family limited partnership to object to claims it asserted against the estate of the debtor, including its claim for payment of an administrative expense for the debtor's post-petition rent or post-petition use and occupancy of real estate. In this case, CPS Associates, the landlord, drew down a letter of credit issued to ensure payment of rent and also filed a proof of claim in the tenant's bankruptcy.

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