- Absolute Assignment of Rents vs. Assignment as Collateral
- August 10, 2017 | Authors: Robert A. Gaumont; Lawrence D. Coppel; Marjorie A. Corwin; Christopher R. Rahl
- Law Firm: Gordon Feinblatt LLC - Baltimore Office
Commercial lenders that make loans secured by income producing real property will usually include an assignment of rents provision in the deed of trust or obtain a separate assignment agreement. Typically, the assignment provision will include the words “grant, convey and assign” and the assignment will be described as “absolute.” The borrower will also be granted a license to use the rents in its operations so long as no default occurs. If there is a default, the license will then terminate. If the borrower files a Chapter 11 bankruptcy case after default, it will usually file a motion for authority to use the rents and argue that the rents are cash collateral. In order for the rents to be cash collateral, the court must find that the borrower has an ownership interest in the rents. However, if the assignment of rents is absolute, then the court will find that the borrower has no right to use the rents. If the court finds that the rents are owned by the lender, then the bankruptcy case will collapse as a practical matter and the lender will likely be given permission to enforce its rights.
The issue of whether an assignment of rents grants absolute ownership to the lender as opposed to a lien has divided the courts. In a 1990 published decision, the United States Bankruptcy Court in Maryland held that an assignment of rents provision only granted the lender a lien in the rents and thus the borrower/debtor could use the rents as cash collateral if adequate protection is provided. Since that decision, there has been no reported Maryland case in which a lender argued that its assignment of rents should be treated as an absolute assignment.
Recently, the United States Court of Appeals for the Sixth Circuit reopened the door for a lender to argue that its assignment provision conveyed to it ownership of the borrower’s rents upon default. In a recent decision applying Michigan law, the appellate court affirmed a district court decision holding that the assignment of rents granted to the lender was an absolute assignment of rents as opposed to an assignment as collateral. As a result, the Chapter 11 debtor was barred from using any of the rents without the lender’s permission.While the Sixth Circuit applied Michigan law, both Maryland and Michigan are title theory states. The decision presents lenders with a new opportunity to argue in favor of an absolute assignment of rents in an appropriate Maryland bankruptcy case. While the argument may be rejected by the Bankruptcy Court in Maryland as a result of its 1990 decision, the issue is ripe for appeal as a result of the Sixth Circuit’s decision. Please contact Lawrence Coppel for more information concerning this topic.