Lenders' right to credit bid tested before 7th Circuit

Given the limited options in today’s marketplace to refinance or restructure defaulted or mature commercial mortgage loans, many cash-strapped real estate borrowers have sought relief under the Bankruptcy Code. In a few instances, borrowers have aggressively sought to eliminate or restrict one important right in a secured lender’s bankruptcy arsenal — the right to credit bid. Decisions by the U.S. courts of appeals for the 3d and 5th circuits restricting this right have recently emboldened borrowers’ attempts to retain commercial real estate investments or steer such investments to related or favorable parties. As discussed below, the 7th Circuit will soon address secured lenders’ credit-bid rights in the real estate context.

Credit bidding refers to the ability of a secured lender to bid up to the full amount of its secured debt claim to acquire its collateral (i.e., the mortgaged property in the commercial real estate context) in exchange for cancellation of the related indebtedness in the amount of the bid. A secured lender is not obligated to bid the entire amount of its debt. Credit bidding recognizes circumstances in which a lender may want to acquire its collateral, in exchange for cancellation of the debt, to prevent a borrower from selling such collateral for an inadequate price or an amount insufficient to repay the lender’s debt in full. In most circumstances, a credit bid will not include a payment of cash to the borrower. Indeed, allowing a secured lender to credit bid prevents the lender from having to pay cash for its own collateral. Otherwise, the secured lender would simply being paying itself for the foreclosed property.