In a consolidated appeal involving four separate bankruptcy cases, the Court of Appeals for the Seventh Judicial Circuit in Chicago held on June 19, 2019 (See In re Fulton, et al, Nos. 18-2527, 18-2793, 18-2835 & 18-3023 (7th Cir. June 19, 2019)), that the City of Chicago could not sidestep the holding in Thompson v. v. General Motors Acceptance Corp., 566 F.3d 699 (7th Cir. 2009) (“Thompson”) and was obligated to return impounded vehicles to owners notwithstanding the City's contention that doing so would impair its possessory lien upon the vehicle.
According to the Appeals Court, “[t]he main question before us is whether the City is obligated to return a debtor’s vehicle upon her filing of a Chapter 13 bankruptcy petition, or whether the City is entitled to hold the debtor’s vehicle until she pays the fines and costs or until she obtains a court order requiring the City to turn over the vehicle.” Id. at 8.
Relying largely upon its prior opinion in Thompson and §542 of the Bankruptcy Code, the Court of Appeals held that turnover of a seized vehicle is compulsory because of the interplay between Bankruptcy Code §362(a)(3) and §542(a), noting that it “observed that a majority of courts had found §542(a) worked in conjunction with §362(a) ‘to draw back into the estate a right of possession that is claimed by a lien creditor pursuant to a pre‐petition seizure; the Code then substitutes adequate protection’ for possession as one of the lien creditor’s rights in the bankruptcy case.’” (quoting Thompson, 566 F.3d at 704 (quoting In re Sharon, 234 B.R. a676, 683-84 (B.A.P. 6th Cir. 1999)).
Accordingly. “[b]ecause ‘[t]he right of possession is incident to the automatic stay,’ id., the creditor must first return the asset to the bankruptcy estate. Only then is ‘the bankruptcy court  empowered to condition the right of the estate to keep possession of the asset on the provision of certain specified adequate protections to the creditor.’” Fulton, at 12 (quoting Thompson, 566 F.3d at 704).
The Appellate Court also rejected the City's contention that the exception to the automatic stay embodied in Section 362(b)(3) authorized the continued retention of the vehicle. “Section 362(b)(3) provides that a Chapter 13 bankruptcy petition does not operate as a § 362(a) automatic stay: of any act to perfect, or to maintain or continue the perfection of, an interest in property to the extent that the trustee’s rights and powers are subject to such perfection under section 546(b) of [the Bankruptcy Code] or to the extent that such act is accomplished within the period provided under section 547(e)(2)(A) of [the Bankruptcy Code].” Id. at 19. The Appeals Court reasoned that the purpose of this provision is to prevent creditors from losing their lien rights because of the bankruptcy; they do not permit creditors to retain possession of debtors’ property” (id. at 20) and that “the City’s possessory lien is not destroyed by its involuntary loss of possession due to forced compliance with the Bankruptcy Code’s automatic stay.” Id.
Finally, the Seventh Circuit rejected the City’s contention that the stay was inapplicable to its actions in light of what has become known as the “policy and regulatory power” exception to the stay. 11 U.S.C. § 362(b)(4). Under this exception, the stay does not apply to “the commencement or continuation of an action or proceeding by a governmental unit to enforce such governmental unit’s or organization’s police and regulatory power, including the enforcement of a judgment other than a money judgment, obtained in an action or proceeding by the governmental unit to enforce such governmental unit’s police or regulatory power.” Id. at 22.
In rejecting the City’s reasoning that “its impoundment of vehicles is an exercise of its police power to enforce traffic regulations as a matter of public safety,” the Circuit Court concluded that “we are persuaded that on balance, this is an exercise of revenue collection more so than police power” and that the exception did not apply to the City’s efforts at impoundment because such efforts were, in sum and substance, attempts to collect a money judgment, which was not a permitted action even under the police and regulatory power exception. Id. at 26-27.