Windmill Farms, Inc., In re

• Decision Date: 25 March 1988
• Docket Number: No. 87-5707,87-5707
• Citation: 841 F.2d 1467
• Parties: In re WINDMILL FARMS, INC., Debtor. VANDERPARK PROPERTIES, INC., Appellant, v. David L. BUCHBINDER, Trustee of Windmill Farms Management Company, Inc., Appellee.
• Court: U.S. Court of Appeals — Ninth Circuit

Page 1467

841 F.2d 1467

In re WINDMILL FARMS, INC., Debtor VANDERPARK PROPERTIES, INC., Appellant, v. David L. BUCHBINDER, Trustee of Windmill Farms Management Company, Inc., Appellee.

No. 87-5707.

United States Court of Appeals Ninth Circuit.

Argued and Submitted Dec. 9, 1987.

Decided March 25, 1988.

Carl Grumer, Brian W. Kaufman, Cooper, Epstein & Hurewitz, Beverly Hills, Cal., for appellant.

William M. Rathbone, Weeks, Willis, Rathbone & Johnson, San Diego, California, for appellee.

Appeal from the Ninth Circuit Bankruptcy Appellate Panel.

Before WALLACE, NORRIS and THOMPSON, Circuit Judges.

DAVID R. THOMPSON, Circuit Judge:

Vanderpark Properties, Inc. ("Vanderpark"), the lessor of commercial real property in San Diego County, California, appeals from a judgment of the Ninth Circuit Bankruptcy Appellate Panel ("BAP"). The BAP affirmed an order of the bankruptcy court permitting the Chapter 7 bankruptcy trustee for Windmill Farms, Inc. ("WFI") to assume and assign the lessee's interest in a lease of commercial property from Vanderpark. Vanderpark argues that this lease had been terminated under California law before WFI filed its bankruptcy petition and, consequently, there was nothing for the trustee to assume and assign. Vanderpark also contends the bankruptcy court erred in holding an ex parte hearing on the issue of assumption of the lease, and in allowing assumption of the lease in the face of outstanding, uncured defaults by the lessee. Furthermore, Vanderpark contends the lease term has now expired because notice of exercise of a renewal option was not timely given.

We have jurisdiction pursuant to 28 U.S.C. Sec. 158(d). We reverse the BAP and remand this case to the bankruptcy court for further proceedings.

I FACTS

On July 30, 1975, Vanderpark leased commercial real property in California to Mini Super, Inc. for a ten-year term expiring on May 29, 1986. The lease contained an option permitting the lessee to renew the lease for an additional ten years by giving written notice to the lessor no later than September 29, 1985. Vanderpark subsequently consented to two assignments of the lease, the first to Windmill Farms, a general partnership, and the second from the partnership to WFI.

WFI is a wholly-owned subsidiary of Windmill Farms Management Company ("WFMC"). WFI is the general partner of Windmill Farms, Ltd. No. 1 ("WFL # 1"), a California limited partnership. WFMC is the general partner in other limited partnerships containing the Windmill Farms name. Because WFMC performs centralized accounting functions for the various Windmill Farm entities, Vanderpark received its lease payments from WFMC, rather than from WFI.

WFMC failed to remit WFI's February 1985 rent payment to Vanderpark. On February 15, 1985, Vanderpark served a three-days' notice to pay rent or quit. This notice was addressed to "Windmill Farms." In the notice, Vanderpark stated that it had elected to declare the lease forfeited if back rent and delinquent tax impounds were not paid within the three-days' notice period. The back rent and delinquent tax impounds were not paid, and on March 11, 1985, Vanderpark filed an unlawful detainer complaint against "Windmill Farms, a partnership." Vanderpark later amended this complaint to name WFI, WFMC and WFL # 1 as additional defendants.

On February 27, 1985, an involuntary bankruptcy proceeding was commenced against WFMC. In May 1985, WFMC's trustee, Buchbinder, learned of Vanderpark's unlawful detainer action. Buchbinder thought the lease belonged to WFL # 1, so he filed a Chapter 7 petition for WFL # 1. The WFMC and WFL # 1 cases were consolidated, and Buchbinder moved to assume the lease.

Vanderpark opposed the lease assumption. After an evidentiary hearing on September 27, 1985, the bankruptcy court concluded that the lease belonged to WFI, and because WFI was not a party to the consolidated proceedings, Buchbinder, as trustee for the other Windmill Farms entities, could not assume the lease. The September 27 hearing took place on a Friday. The following Monday, September 30, 1985 Buchbinder filed a Chapter 7 petition on behalf of WFI and filed an ex parte motion to consolidate the WFI petition with the other consolidated Windmill bankruptcy court proceedings. He also moved in that ex parte proceeding to be appointed trustee for WFI, to assume the lease from Vanderpark, to exercise the lessee's option to renew the lease, and to assign the lease free and clear of interests and liens. The bankruptcy court granted these motions. Buchbinder, as trustee for WFI, assumed the lease, and later sold it for $106,000. Both Vanderpark and Buchbinder now claim these proceeds. ¹

II ANALYSIS

A. Standard of Review

This court reviews a decision of the Bankruptcy Appellate Panel de novo. Briney v. Burley (In re Burley), 738 F.2d 981, 986 (9th Cir.1984). This is because both the BAP and the court of appeals apply the same standard of review to the underlying judgment of the bankruptcy court. Id. Consequently, we evaluate the bankruptcy court's findings of fact under the clearly erroneous standard and review its conclusions of law de novo. Id.; Pistole v. Mellor (In re Mellor), 734 F.2d 1396, 1399 (9th Cir.1984).

B. Termination of the Lease

The Bankruptcy Code permits a trustee, with court approval, to "assume or reject any executory contract or unexpired lease of the debtor." 11 U.S.C. Sec. 365(a). However, "[t]he trustee may not assume or assign any executory contract or unexpired lease of the debtor ... if ... such lease is of nonresidential real property and has been terminated under applicable nonbankruptcy law prior to the order for relief." 11 U.S.C. Sec. 365(c)(3). The phrase "applicable nonbankruptcy law" means applicable state law. See City of Valdez v. Waterkist Corp. (In re Waterkist Corp.), 775 F.2d 1089, 1091 (9th Cir.1985). Simply put, if a lease of nonresidential real property has been terminated under state law before the filing of a bankruptcy petition, there is nothing left for the trustee to assume. See Kearny Mesa Crossroads v. Acorn Investments (In re Acorn Investments), 8 B.R. 506, 510 (Bankr.S.D.Cal.1981).

The first question we address, therefore, is whether the subject lease, which was of "nonresidential" real property, terminated under California law before WFI filed its bankruptcy petition. Vanderpark argues that in California a lease terminates no later than the day on which the lessor files his unlawful detainer action in state court following a properly given three-days' notice to pay rent or quit, coupled with the failure of the tenant to cure the default within the three-day period, and provided the three-days' notice contained the lessor's election to declare the lease forfeited. It relies on In re Escondido West Travelodge, 52 B.R. 376 (S.D.Cal.1985), as support for this proposition. ²

Buchbinder, on the other hand, argues that the lease had not terminated by the time WFI filed its Chapter 7 petition, because as of that date Vanderpark had not obtained a favorable judgment in its unlawful detainer action. Because the lease had not terminated, he contends the lease was assumable by him, he properly assumed it, sold it, and the proceeds belong to the WFI Chapter 7 estate. The BAP agreed with Buchbinder. See In Re Windmill Farms, Inc., 70 B.R. 618, 623 (BAP 9th Cir.1987). We agree with Vanderpark. If the three-days' notice to pay rent or quit was properly given, the lease terminated at least by the time Vanderpark filed its unlawful detainer action in California state court. We need not decide whether the lease terminated before Vanderpark filed its unlawful detainer action.

1. The California Statutes

California Civil Code section 1951.2(a) provides that "if [the lessee's] right to possession is terminated by the lessor because of a breach of the lease, the lease terminates." Cal.Civ.Code Sec. 1951.2(a) (West 1985). No one disputes that the lessee, WFI, breached the lease by not paying the rent and property tax impounds. It is also uncontroverted that in its three-day notice to pay rent or quit, the lessor, Vanderpark, notified WFI that if the back rent and delinquent tax impounds were not paid within the three-days period, the lease would terminate. The question, therefore, is whether the lessor's act of giving the three days' notice, which declared a forfeiture of the lease, coupled with the lessee's failure to cure the default within the three-day period, terminated WFI's right to possession under section 1951.2(a). If WFI's right to possession was terminated, then according to the plain language of California Civil Code section 1951.2(a), the lease was terminated.

We look to California's unlawful detainer statutes to determine when a lessee's right to possession is terminated in these circumstances. See Cal.Civ.Proc.Code Sec. 1161 (West 1982). A tenant who is guilty of unlawful detainer cannot possibly have the right to possession of the property. He still may be in possession of the property, but his possession is not rightful; it is unlawful. California Code of Civil Procedure section 1161 specifies when this possession becomes unlawful:

A tenant of real property ... is guilty of unlawful detainer:

....

When he continues in possession ... without the permission of his landlord ... after default in the payment of rent, pursuant to the lease ... under which the property is held, and three days' notice, in writing, requiring its payment, stating the amount which is due, or possession of the property, shall have been served upon him....

Cal.Civ.Proc.Code Sec. 1161(2). After the three-days' notice period has passed, if the tenant remains in possession, the landlord may file his unlawful detainer complaint and proceed according to Code of Civil Procedure section 1174(a), which provides:

If upon the trial, the verdict of the jury, or, if the case be tried without a jury, the findings of the court be in favor of the plaintiff and against the...