The Bankruptcy Code's Inherent Limitations for Struggling Golf Courses

However, the mere fact that property has become more desirable or valuable for business than for residence purposes, where the restriction, notwithstanding the change of conditions, is still of substantial advantage to the dominant property, will not necessarily defeat application for equitable relief. In other words, there must be substantial evidence that the changed circumstances render the purpose of the covenant unattainable. See, Welshire, Inc. v. Harbison, 33 Del.Ch. 199, 204, 91 A.2d 404,406-07 (1952) (“a mere change in economic conditions rendering it unprofitable to continue the development subject to the restrictions originally imposed is not itself a change sufficient to justify the court in disregarding or abrogating the restrictive covenant.”). See also, Murphey v. Gray, 84 Ariz. 299, 304, 327 P.2d 751, 754 (1958).

Further, a number of courts have held that a lack of profitability or a mere change in economic conditions does not, in and of itself, translate to a change of circumstances which will permit the evisceration of a restrictive covenant. See, Shalimar Ass'n v. D.O.C. Enterprises, Ltd., 142 Ariz. 36, 43, 688 P.2d 682, 691 (1984) (in rejecting efforts of developer to strip covenants requiring property to be maintained solely as a golf course, court found that “[a] mere change in economic conditions rendering it unprofitable to continue the restrictive use is not alone sufficient to justify abrogating the restrictive covenant.”). Thus, a restrictive covenant will be enforced even though unrestricted use of the property would be more profitable to its owner. See, Williams v. Butler, 76 N.M. 782, 784, 418 P.2d 856, 858 (1966) (citing Marra v. Aetna Construction Co., 15 Cal. 2d 375, 101 P.2d 490 (1940)). In short, more than economic harm is needed to present a valid changed conditions argument. See, Wolff v. Fallon, 44 Cal. 2d 695, 697, 284 P.2d 802, 803 (1955).

Worsened Conditions

Even courts that have authorized the severance of a covenant under the doctrine of “changed circumstances” have done so only where it was demonstrated that the property had worsened well beyond the point where the restrictive covenants could protect those benefitting from the covenant. For instance, in In re Daufuskie Island Props., LLC, 431 B.R. 626 (Bankr. D. S.C. 2010), the bankruptcy court found that a Chapter 11 trustee could sell property subject to a restrictive covenant which ran with the land free and clear of that covenant pursuant to either the doctrine of changed circumstances, or by reason of a bona fide dispute regarding the covenant's validity. But in reaching its decision, the Daufuskie court, and others allowing sales free and clear of a covenant, first held that the term “interest” contained in Section 363(f)(1) should be interpreted broadly.

Therefore, the court determined that if the estate assets could be sold free and clear of the restrictive covenant under South Carolina law, the court could authorize the sale pursuant to Section 363(f)(1). In permitting the sale, the court was persuaded by evidence showing that no purpose would be served by permitting the restrictive covenant to continue since by doing so “it would create no value for the homeowners, would cause issues with the title to all property left to be sold and developed, and would interfere with lending as indicated by the course of this case.” Id.at 645. Furthermore, the court based its decision on testimony from the trustee showing that “allowing the repurchase right to remain in place as a restrictive covenant would not only block the proposed Sale, but it would likely lead to the closing of all operations on the property, which would defeat the objectives of the Transfer Agreement and expose the Estate, the creditors, [the objecting creditor], and surrounding property owners to potentially disastrous consequences.” Id. at 645.

Consequently, the court found that a changed condition existed under state law supporting a sale free and clear of the restrictive covenant under Section 363(f)(1). See also, In re TOUSA, Inc., 393 B.R. 920 (Bankr. S.D. Fla. 2008) (court permitted Section 363 sale after finding that, under Florida state law, the specific restriction was unenforceable since it was found to be a direct restraint on alienation in that it attempted to limit or penalize sales of property in question); In re Midsouth Golf, LLC, 549 B.R. 156 (Bankr. E.D.N.C. 2016) (covenant imposing on debtor an affirmative obligation to maintain and operate recreational amenities on debtor's property in a planned community did not run with the land, even though the covenant was intended to run with the land, since covenant was not sufficiently connected to any benefits derived by the land of homeowners in the community and thus did not touch and concern the land; even if covenant did run with the land, the debtor's property could be sold under a plan free of the covenant since a state-court determination that homeowners were not bound by covenant requiring homeowners to pay debtor for amenities altered the structure and operation of the covenants, and thus constituted changed circumstances warranting termination of the covenant to maintain the amenities).

Another Example

In In re Eastport Golf Club, Inc., 373 B.R. 446 (Bankr. D. S.C. 2007), the bankruptcy court adopted a different approach. In Eastport, the debtor proposed a plan that provided for redevelopment of a debtor's golf course property to include condominiums. The homeowner's association, acting on behalf of residents who resided in neighborhoods that were part of the same development as the golf course, objected to the plan on the ground that the condominiums would violate a restrictive covenant and impair homeowners' claims.

The debtor was confronted with a recorded covenant of the development, which ran with the land and limited the use of the debtor's property to the golf course and related facilities. The debtor contended that the proposed condominiums were related to the golf course because development of the units was the only way that the golf course could operate as an economically viable enterprise. Nevertheless, the court held that the debtor's plan violated the restrictive covenant since the condominium units did not constitute facilities related to the golf course. Id. at 453.

According to the court, the development of any portion of the property into condominiums, as proposed by the plan, was not using the property as a golf course, but rather sub-dividing the property for private residential use, thereby diminishing the property's availability for recreational and social uses associated with the sport of golf. The deeds prohibited such a redevelopment. Id. at 473. See also, Skyline Woods Homeowners Ass'n, Inc. v. Broekemeier, 758 N.W.2d 376 (Neb. 2008) (after owners of golf course informed homeowners abutting course that it was not required to honor their golf membership agreements and it would begin to shut down course, homeowners obtained injunctive relief on the grounds that there was an implied easement in favor of homeowners due primarily to representations made during sale of the residential homes, and a prior bankruptcy sale to the owner did not extinguish the covenant, thereby upholding the enforcement of the implied covenant that the property be used only as a golf course).

Both Eastport and Skyline Woods reinforce the approach adopted by numerous courts rejecting a change of circumstances argument based largely, if not totally, on the proposition that the property would be more valuable or profitable if the covenant was severed.

Conclusion

If reorganization is entirely dependent on whether a restrictive covenant can be rejected under Section 365(a) or discarded by Section 363(f), golf course owners must take special note of the underlying characteristics of the covenant. As illustrated, the prevailing view is that restrictive covenants that touch and concern the affected parcel will remain affixed to the estate's property post-petition, regardless of whether the covenant has features of a contract and there are reciprocal duties imposed on both sides.

Even when changed circumstances arguably exist, unless there is substantial evidence demonstrating that the covenant presents an unlawful restraint on alienation or the circumstances have changed well beyond the point where the restrictive covenant could protect those benefitting from the covenant, neither Section 365(a) nor Section 363(f) will permit the rejection or evisceration of the covenant. Merely arguing that the property will be more profitable to the estate without the covenant will be insufficient, and golf course owners could be left with limited options.

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Daniel A. Lev is a member of SulmeyerKupetz, A Professional Corporation. He specializes in business reorganization, financial restructuring, and other insolvency matters and related litigation.