The issue before the District Court in Putnall v. SunTrust Bank, No. 5:12-cv-481, 2013 U.S. Dist. LEXIS 44187 (M.D. Ga. March 28, 2013) was whether the lender’s security interest in rents (the “cash collateral”) was separate and apart from, and in addition to, its security interest in the rental property owned by the Debtor. The lender argued that because it had two separate categories of collateral, it was entitled to separate adequate protection for each pursuant to 11 U.S.C. §522. The Debtor argued that “SunTrust’s interest in rents is subsumed by its interest in the real property, and that so long as the real property’s value is not declining, all that must be protected is a lien in rents.” The Bankruptcy Court only authorized expenditures for (1) $5,000 incurred to appraise the property; (2) any expenses incurred in negotiating a new lease on the property; and (3) up to $623.72 per month to pay unreimbursed maintenance expenses.
The District Court found no Eleventh Circuit authority on point, but followed the majority of other courts and held that the lender’s interest in rents is “separate from its interest in the land and corresponds to the amount of rents that accrue.”
By virtue of the Deed of Trust, SunTrust possesses a separate security interest in the rents produced by the Chattanooga property. Most of the few courts addressing this issue have held that the value of this interest should be measured by the actual rents that have accrued or will accrue… The Sixth Circuit’s unpublished opinion in [Stearns Building v. WHBCF Real Estate, 165 F.3d 28, 1998 WL 661071 (6th Cir. 1998)] and the Sixth Circuit Bankruptcy Appellate Panel’s decision in [In re Buttermilk Towne Center, LLC, 442 B.R. 558 (6th Cir. B.A.P. 2010)] are particularly instructive. In Stearns, the bankruptcy court had rejected the debtor’s request to use rents for administrative expenses, which he proposed to adequately protect by granting the creditor a replacement lien, and ordered him to surrender the rents as cash collateral. 1998 WL 661071 at *2. The debtor asked for a stay while he appealed. The bankruptcy and district court denied the request, and in appealing that decision to the Sixth Circuit, the appellate court considered whether the debtor was likely to prevail on the merits. Id. at *2-3. The court determined he would not, because his proposed diversion of the net rents would diminish the creditor’s interest in the assignment of rents portion of its perfected security interest:
[The creditor] is entitled to receive adequate protection for Debtor’s use of the net rents generated post-petition if the rents constitute “cash collateral” and there is compliance with 11 U.S.C. § 552(b). Both requirements are met here. 11 U.S.C. § 363(a) expressly provides that rents are “cash collateral.” In addition, 11 U.S.C. § 552(b)(2) generally provides that, if there is a pre-petition security agreement that extends to pre-petition property and to amounts paid as rents of such property, then that security interest extends to post-petition rents to the extent provided in the security agreement. In the present case, the pre-petition security agreement establishes that, upon default, “[Debtor] in such case does hereby bargain, sell, assign and set over to [the creditor] all the rents, income and profits, which, whether before or after foreclosure of this mortgage or during the period of redemption, shall accrue and be owing for the use or occupation of [the complex] .” … Hence, it is clear that Debtor must provide adequate protection if it is to use the net rents.
Stearns, 1998 WL 661071 at *4
The Court rejected Debtor’s position:
Debtor’s argument ignores the nature of the interest actually assigned to SunTrust. SunTrust took more than security necessary to maintain the value of the property; it took an interest in the cash generated by the property. To treat SunTrust’s interest as an interest in only the existence of a lien in rents to protect the value of the property is to adopt a replacement lien theory, which does not provide adequate protection for SunTrust’s interest in the revenue the rents produce. See Buttermilk Towne Center, 442 B.R. at 566.
Even though a few courts once followed it, the replacement lien theory has by now been generally discredited, and not just by the Sixth Circuit panels. Most courts recognize that a pre-petition security interest in rents is a special kind of collateral that, pursuant to 11 U.S.C. § 552(b), continues in full force and effect after the petition is filed. As such, the replacement lien theory’s purported protection is seen as “illusory.” In re Smithville Crossing, LLC, 2011 WL 5909527 at *10. Put another way, a replacement lien simply provides no protection for the very real interest the creditor has in accruing rents. That is why “virtually every case addressing this issue” has rejected the replacement lien. Id. This Court now does the same…
Accordingly, SunTrust has a secured interest in each dollar in rents that accumulates, and each of those dollars is entitled to adequate protection. The Debtor may not use any of the rents to administer his bankruptcy or for other general purposes, because for each dollar in rents he spends, he deprives SunTrust of the adequate protection of that dollar. The Debtor’s use of rents is therefore limited to expenses that are “directly related to the operation, maintenance, or preservation of the” Chattanooga property, or that “are reasonable and necessary to preserving or disposing of such property and are incurred primarily for the benefit of the secured creditor.”
The order of the Bankruptcy Court was affirmed.