In re Urban Commons 2 West LLC (Bankr. SDNY Mar. 4, 2025)

The Debtors, five affiliated limited liability companies, collectively owned long-term leasehold interests (the Hotel Lease Interests) in a hotel located at 2 West Street in New York’s Battery Park City neighborhood. The Debtors purchased the Hotel Lease Interests in September 2018 for approximately $147 million, of which $96 million was financed by a first mortgage issued by BPC Lender, LLC (the Lender). While the validity of that mortgage has not been challenged, the loan matured in 2020, and the Debtors were unable to obtain refinancing.

Following the onset of the COVID-19 pandemic, the hotel ceased operations, and it has remained shuttered since that time. The compilation of these events ultimately led to the Debtors filing for relief under Chapter 11 of the Bankruptcy Code in November 2022. At this point, the amount owed under the loan agreement grew to $114 million, plus fees and costs. 

From the outset of the bankruptcy, it was clear that the Debtors’ only viable option was to market and sell their assets on a relatively expedited timetable. After securing the requisite approvals from the Bankruptcy Court to market and sell the Hotel Lease Interests, it was quickly determined that no qualified bids would be received from potential parties-in-interest (other than the Lender’s bid, which consisted of a $78.5 million credit bid, among other things).

In September 2024, the Bankruptcy Court held a combined hearing on (a) the Debtors’ motion to approve the sale of the Hotel Lease Interests free and clear of all liens, claims, interests and encumbrances pursuant to 11 U.S.C. §§ 363(c) and 363(f) (the Sale Motion), and (b) confirmation of the Debtors’ third amended plan of liquidation. Only one party, VIK Services, Inc. (VIK), a contractor that had filed a mechanic’s lien to secure its claim for approximately $189,000 in unpaid prepetition services, objected to the sale of the Hotel Lease Interests free and clear of its lien, contending that neither Section 363(f)(5) nor any other subsection of Section 363(f) authorized such free-and-clear treatment.

In considering the Sale Motion, the Bankruptcy Court undertook its own review of the text and statutory context of Section 363(f)(5), in an effort to choose between two competing interpretations: on the one hand, most courts, including bankruptcy courts in the Southern District of New York, have construed Section 363(f)(5) broadly, holding that its requirements are satisfied if a foreclosure sale under state law would extinguish the interests at issue; on the other hand, in 2014, the District Court for the Southern District of New York (the District Court) considered this same issue but contrarily held that Section 363(f)(5) is only satisfied only if the debtor itself, as the property’s owner, could bring a legal or equitable proceeding under non-bankruptcy law to extinguish the interests in question. Dishi & Sons v. Bay Condos LLC, 510 B.R. 696, 710 (SDNY 2014) (Dishi). Evidently, were the Bankruptcy Court to adopt the District Court’s interpretation in Dishi, Section 363(f)(5) would rarely be satisfied—impairing the ability of debtors to sell assets for fair value.

The Bankruptcy Court ultimately approved the Sale Motion, reading Section 363(f)(5) not to encompass any conceivable hypothetical proceeding that might compel interest holders to accept a money satisfaction of such interests, but only proceedings that might realistically be brought in the case if the automatic stay were lifted or did not apply (such as foreclosures or UCC sales). Referring to such as a “realistic possibility” standard, the Bankruptcy Court contrasted its ruling from that in Dishi, which employed a more “hypothetical” standard in support of the proposition that absent a narrow reading of Section 363(f)(5) the statute would be virtually limitless to encompass any hypothetical action a third party might take that would compel interest holders to accept a money satisfaction of such interests.

In considering the statute’s language, the Bankruptcy Court interpreted the text as written in the passive voice—in other words, it permits a sale free and clear of an entity’s interest in property if “such entity could be compelled, in a legal or equitable proceeding, to accept a money satisfaction of such interest.” 11 U.S.C. § 363(f)(5). The Bankruptcy Court found that Dishi’s interpretation of the statute, which would permit a free and clear sale only if one party—the trustee, as owner of the property—could compel the interest holders to accept a money satisfaction, transforms the plain meaning of the text, which contains no limitation on who can bring a proceeding to compel such a result. 

The Bankruptcy Court also found that reading Section 363(f)(5) to include foreclosure sales and UCC sales comport with the subsection’s purposes, which are apparent when viewed in broader statutory context. For example, foreclosure sales and UCC sales are the principal state law alternatives to Section 363 sales, the mechanism most often used when a secured creditor shows cause to lift the automatic stay. Because the Bankruptcy Code generally relies on state law to establish parties’ baseline rights, see Butner v. United States, 440 U.S. 48, 54-55 (1979), it makes sense that Congress would have looked to such state law mechanisms to determine which property interests would be extinguished by a bankruptcy sale. In the Bankruptcy Court’s view, given the text of the statute, “Congress would have intended [S]ection 363 sales to strip off any interests that state law ‘legal or equitable proceeding[s]’ such as foreclosure sales and UCC sales would extinguish.” In re Urban Commons 2 West LLC, et al., Dkt. No. 533, at 13.

In conclusion, the Bankruptcy Court’s ruling underscores the importance of balancing competing interests of secured creditors and debtors, allowing debtors to use or sell a secured creditor’s collateral so long as the value of the secured creditor’s interest in the collateral is adequately protected. According to the Bankruptcy Court, Dishi’s narrow reading of Section 363(f)(5) would undercut the purposes served by the statutory scheme, which would, in turn, allow holders of out-of-the-money junior liens, like VIK, to (a) retain their liens and potentially be able to enforce them against a buyer for full value, even though the value of their interest in zero; (b) elevate the value of such worthless liens; (c) depress the price any potential buyer would be willing to pay; and (d) extract payment of hold-up value in exchange for waiving their liens.