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Government & Public Sector Section Website › Newsletters › The Public Servant, December 2010 › Discontinuing Utility Services When a Customer Files for Bankruptcy

Discontinuing Utility Services When a Customer Files for Bankruptcy

Article Date: Monday, December 20, 2010

Written By: Kara A. Millonzi

Utility Jones arrives for work as a water and sewer utility fee collection agent for a local government. He is met at the door by an irate customer, Dell Linquent, who claims that her water was shut off illegally the day before. Utility checks Dell’s account records and discovers that her water account is 35 days overdue. Utility confirms with Dell that she received both the original bill and a second notice warning that, according to the unit’s utility management ordinance, service would be disconnected 30 days after the bill became due if it was not paid in full. Dell, growing increasingly angry, continues to insist that the disconnection was unlawful. She threatens legal action against the local government and Utility himself if he does not turn her water back on immediately. Upon further questioning, Utility discovers that Dell filed a petition for Chapter 13 bankruptcy about a week ago. Dell maintains that because she filed for bankruptcy the local government is no longer allowed to disconnect her utility service for any reason.

What should Utility Jones do?
Utility Jones should reconnect Dell’s water service immediately. Federal bankruptcy law-specifically 11 U.S.C. § 366(a)- prohibits a utility, once a customer has filed a petition for bankruptcy, from “altering, refusing, or discontinuing service to, or discriminating against, a trustee or a debtor solely on the grounds that the debtor had not paid its prepetition debts when due.” The prohibition, however, only applies for a limited time and only applies with respect to delinquencies incurred (or deemed to occur by operation of law) before the bankruptcy filing. Thus, Dell is not correct that the local government is no longer allowed to disconnect her utility service for any reason. Let us look at the state and federal statutory requirements more closely.

North Carolina State Law
A North Carolina county or municipality that owns or operates a public enterprise utility (including water, wastewater, electric, and natural gas) may discontinue services to a customer who is more than ten days delinquent on payments owed for utility services. See N.C.G.S.153A-277(b) (counties); N.C. G.S. 160A-314(b) (municipalities). A local government may set a longer period by local resolution or ordinance; in fact, it is common practice for local units to set the period at twenty-five or thirty days. Furthermore, a local government has broad authority to adopt reasonable rules to protect and regulate its utility system and operations. See N.C.G.S. 153A-278 (counties); N.C.G.S. 160A-312 (municipalities). And, under certain circumstances, a unit may discontinue services for violation of these rules.
However, this broad right to discontinue public enterprise utility services is subject to a significant limitation under federal law if a utility customer has filed for federal bankruptcy protection.

Federal Bankruptcy Code
Very generally, bankruptcy is a process in which individuals and businesses eliminate or repay some or all of their debts under the protection of the federal bankruptcy court. There are six types of bankruptcy under the United States Bankruptcy Code, located at Title 11 of the United States Code and designated by chapter number: Chapter 7 (governs basic liquidation for individuals and businesses); Chapter 9 (governs municipal bankruptcies); Chapter 11 (governs rehabilitation or reorganization, primarily by business debtors but sometimes by individuals with substantial debts and assets); Chapter 12 (governs rehabilitation for family farmers and fishermen); Chapter 13 (governs rehabilitation with a payment plan for individuals with a regular source of income); and Chapter 15 (governs ancillary and other international cases). The most common types of personal bankruptcy for individuals are Chapter 7 and Chapter 13. Corporations and other business entities often file under Chapter 7 or Chapter 11.
11 U.S.C. § 366(a)’s (temporary) prohibition against disconnecting or refusing utility services to a customer who has filed for bankruptcy applies to all six bankruptcy methods. But, to what types of utility services does the statutory provision apply? The Bankruptcy Code does not define the term “utility services,” but

the legislative history indicates that [Section 366] was intended to cover utilities that have a special position with respect to the debtor, “such as an electric company, gas supplier, or telephone company that is a monopoly in the area so the debtor cannot easily obtain comparable services from another utility.” Such services as water, electricity, gas, and phones are typically regarded as necessary to meet minimum standards of living.

In re Moorefield, 218 B.R. 795, 796 (Bankr. M.D.N.C. 1997) (internal citations omitted). Based on this understanding, water, wastewater, electricity, and natural gas services provided by a local government likely constitute utility services for purposes of Section 366(a).

Terminating Services because of Pre-petition Debts
All Bankruptcies Except Chapter 11
For all bankruptcies other than those under Chapter 11, the prohibition against terminating utility services in Section 366(a) is conditioned on Section 366(b), which requires that the trustee or debtor furnish “adequate assurance of payment” for services provided after the bankruptcy petition is filed (post-petition services) to the utility within 20 days after the order for relief is granted. (For voluntary bankruptcies the date of the order of relief is the date the bankruptcy petition is filed. 11 U.S.C. § 301.) Section 366(a) temporarily protects a debtor’s access to utility services, whereas Section 366(b) affords some protection to the utility of receiving payment for services provided to a debtor after a bankruptcy petition is filed.
Such adequate assurance may be in the form of a deposit with the utility or it may be given by some “other security,” the amount of which may be modified by order of court on request of a party in interest after notice and a hearing. If asked to modify the proposed amount of the deposit or other assurance, Bankruptcy courts typically consider the particular facts of each case when determining the amount of assurance-balancing the interests of the debtor and the utility service provider. Specifically, courts may consider such factors as

the prepetition security required of the debtor by the utility; the debtor’s payment history; the debtor’s present and future ability to pay its current expenses; the debtor’s net worth; the debtor’s cash requirements; the probability of payment through the distribution under the bankruptcy laws; and the degree by which the risk of nonpayment from the debtor exceeds the risk of nonpayment from the utility’s other customers.

In re Santa Clara Circuits West, Inc., 27 B.R. 680 (Bankr. Utah, 1982). Note that the adequate assurance of payment does not refer to “payment” of utility debts incurred before the bankruptcy petition is filed. (11 U.S.C. § 362(a) imposes an automatic stay on “any act to collect, assess, or recover a claim against the debtor that arose before the commencement of” the bankruptcy petition.) It applies to payments for post-petition utility services. Furthermore, an adequate assurance of payment does not require an absolute guarantee of payment for post-petition services; what is required is that the utility be protected from an unreasonable risk of future nonpayment.

During the 20-day period, a local government may issue a demand letter for a deposit or other form of security, but it does not have to do so as a precondition to terminating service according to its usual policy if it does not receive some form of adequate assurance by the end of the 20 days. See In re Weisel, 400 B.R. 457 (Bankr. W.D.Pa. 2009). It is not entirely clear whether or not a debtor must actually furnish the adequate assurance of payment during the twenty-day period, as opposed to merely proposing the form of adequate assurance. In many situations, it likely is acceptable for the debtor or trustee and the utility to agree to the form and amount of assurance within the 20-day period. If, however, the debtor or trustee makes no overtures to the utility about providing adequate assurance of future payment during the first 20 days after an order for relief is filed, then the utility is free to discontinue service to the debtor-customer according to the utility’s normal policies and practices, unless it has been specifically prohibited from doing so by the bankruptcy court.

Chapter 11 Bankruptcies
Section 366(b) does not apply to a debtor who files a Chapter 11 petition; instead, Section 366(c) governs. (Section 366(c) was enacted as part of the Bankruptcy Abuse and Consumer Protection Act  of 2005.) If the debtor files a petition for bankruptcy under Chapter 11, a utility “may alter, refuse, or discontinue utility service, if during the thirty-day period beginning on the date of the filing of the petition, the utility does not receive from the debtor or the trustee adequate assurance of payment for utility service that is satisfactory to the utility.” 11 U.S.C. § 366(c)(2) (emphasis added).

Unlike Section 366(b), Section 366(c) specifically defines the term “assurance of payment,” as it applies to Chapter 11 debtors, to include a cash deposit, letter of credit, certificate of deposit, surety bond, prepayment of utility consumption, or another form of security that is mutually agreed on between the utility and the debtor or the trustee. (The statute explicitly states that administrative expense priority does not constitute an assurance of payment.) And, the statute provides that the assurance must be “satisfactory to the utility.” Thus, utility providers have greater power and control over the nature and type of security when dealing with Chapter 11 debtors. A utility is not required to issue a demand letter or otherwise contact the debtor or trustee during the 30-day period. If the debtor or trustee does not contact the utility within the 30-day period and offer an adequate form of assurance, the utility is free to discontinue service to the debtor according to its normal policies and practices, unless it has been specifically prohibited from doing so by the bankruptcy court. See, generally In re Viking Offshore (USA) Inc., 2008 WL 782449 (Bankr. S.D. Tex. 2008). At least theoretically, a utility could simply refuse to offer any form of assurance or accept any offer of assurance from the debtor or trustee and then terminate service at the expiration of 30 days according to its usual procedures. A few courts have indicated that there is an implied requirement that utilities negotiate with debtors or trustees in good faith, though. See, e.g., In re Lucre, Inc., 333 B.R. 151 (W.D. Mich. 2005).

No matter what assurance of payment is agreed upon, and likely even if no amount is agreed upon, the amount may be modified (or set) by the bankruptcy court if requested by a party in interest and after a hearing. 11 U.S.C. § 366(c)(3)(A). (There is a split in authority as to whether or not a debtor or trustee must agree to the form and amount of assurance before requesting relief from the court. The emerging majority view appears to suggest that a debtor is not required to first pay a demand that is unilaterally satisfactory to the utility company before seeking modification from the bankruptcy court. Contrast In re Bedford Condominium, 427 B.R. 380 (Bankr. D. Md. 2010); In re Circuit City Stores, Inc., 2009 WL 484553 (Bankr. E.D.Va. 2009); In re Syroco Inc., 374 B.R. 60 (Bankr. D.P.R. 2007); with In re Lucre, Inc., 333 B.R. 151 (Bankr. W.D. Mich. 2005).)

Section 366(c)(3)(b) places an explicit constraint on what bankruptcy courts may, or rather may not, consider in determining what constitutes adequate assurance of payment by a Chapter 11 debtor. Specifically, a court may not consider (1) the absence of security before the date of the filing of the petition; (2) the payment by the debtor of charges for utility service in a timely manner before the date of the filing of the petition; or (3) the availability of an administrative expense priority.
Note that as with all other bankruptcies, Section 362(a) imposes an automatic stay on collecting the pre-petition debts of Chapter 11 debtors. However, with respect to Chapter 11 debtors only, Section 366(c)(4) authorizes a utility to “recover or set off against a security deposit provided to the utility by the debtor before the date of the filing of the petition without notice or order of the court.”

Terminating Services Because of Post-petition Debts
The provisions of 11 U.S.C. § 366 apply only to utility debts incurred before a bankruptcy petition is filed (pre-petition debts); it likely does not apply to delinquent utility payments that arise after the filing of the petition for bankruptcy. With respect to post-petition utility delinquencies, unless the local government utility and debtor-customer agree otherwise or the bankruptcy court has ordered otherwise, the local government may pursue any remedies for collecting delinquencies authorized by state law and local ordinance or policy, including the discontinuance of utility services. See, e.g., In re Weisel, 400 B.R. 457 (W.D. Pa. 2009).

So, what should Utility Jones do? As stated above, Utility should reconnect Dell’s water service. Dell has 20 days from the date she filed her bankruptcy petition to provide some form of assurance to the local government that she will make future utility payments. She could offer to pay a deposit or provide another form of security. If the local government does not consider Dell’s offer of assurance adequate to protect its interests, it may seek modification from the bankruptcy court. If the local government does not receive any offer of assurance from Dell, it may terminate her service at the expiration of the 20-day period. Likewise, if Dell fails to make her post-petition utility payments, the unit may terminate her service according to its usual policies and procedures.

Kara A. Millonzi is Assistant Professor of Public Law and Government at the UNC School of Government.  She may be reached at 919-962-0051or by e-mail at millonzi@sog.unc.edu .
Views and opinions expressed in articles published herein are the authors' only and are not to be attributed to this newsletter, the section, or the NCBA unless expressly stated. Authors are responsible for the accuracy of all citations and quotations.