Article

Factual Summary: To secure a portion of a required mining performance bond, bank issued a standby LC for up to US$ 40,000 payable to a state agency as beneficiary against a demand accompanied by a Notice of Forfeiture.

After Applicant filed for bankruptcy, it ceased operations and was unable to comply with applicable state law or its permit. The agency revoked Applicant's permit after Applicant allegedly failed to respond to a "Show Cause" letter issued by the agency. Applicant appealed revocation of the permit and was given the opportunity to show cause why the permit should not be revoked at a scheduled hearing. Trustee for Applicant was not given notice of the hearing, and the agency revoked the permit and declared the bond forfeit.

Trustee appealed the revocation before the state Surface Mine Board, alleging the agency failed to follow the proper revocation and forfeiture procedures, and seeking a stay of the bond forfeiture. The Board found it was unnecessary to enter a stay, finding that an automatic stay inherent in bankruptcy filings applied to bond forfeitures.

Trustee then brought an adversary proceeding. It asked the bankruptcy court 1) to find that the state had violated the automatic stay (created by statute to preserve assets when a bankruptcy proceeding is commenced) when it declared the bond forfeit, 2) to declare that action null and void, and 3). to order the state to turn over the bond to the bankruptcy estate. The Bankruptcy Court agreed, summarily ordering that the proceeds of the bond, including the LC, were protected by the automatic stay. On appeal, reversed.

Legal Analysis:

1. Insolvency: The appellate court concluded that declaring the bond forfeit, as opposed to collecting on it, did not violate the automatic stay. With respect to the LC, which constituted a significant portion of the bond, the court noted that LCs enjoy a separate status from that of performance bonds, which are generally property of the bankruptcy estate. The appellate court stated that a LC is essentially separate and "independent of the underlying obligations or transactions that gave rise to its issuance ... . 'All a beneficiary has to do to receive payment under a [LC] is to show that it has performed all the duties required by the [LC]. Any disputes between the beneficiary and the customer do not affect the issuer's obligation to the beneficiary to pay under the [LC],'" quoting from Matter of Compton Corp., 831 F.2d 586, 590-91 (5th Cir. 1987).

2. Letters of Credit Not Part of Bankruptcy Estate: Noting that the trial court's ruling implied that the LC was part of the property of the Estate, the appellate court concluded that an LC is not the property of the debtor's estate under U.S. bankruptcy laws. "When the issuer honors a proper draft under a [LC], it does so from its own assets and not from the assets of its customer who caused the [LC] to be issued." As the LC was not the property of the estate, the court ruled that the LC is not subject to the automatic stay.

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