Leases and Executory Contracts in Bankruptcy

When a business files, its ongoing agreements do not automatically continue or end. Section 365 gives the debtor a choice for each executory contract and each unexpired lease: assume it and keep performing, assume it and assign it to someone else, or reject it and treat the resulting damages as an ordinary pre-petition claim. Assumption is not free — defaults must be cured and adequate assurance of future performance given. Rejection is not an escape from liability — it is a breach, and it creates a claim. The deadlines differ by chapter, and they are shortest for leases of commercial real estate.

1.The three choices

Assume

The estate takes on the contract in full, benefits and burdens together. Obligations arising afterward are administrative expenses of the estate, paid ahead of pre-petition unsecured claims.

Assume and assign

The contract is assumed and then transferred to a third party, often as part of a sale. Once assigned, the estate is relieved of liability arising after the assignment.

Reject

The estate walks away. The counterparty holds a claim for damages measured as though the breach occurred immediately before the petition, ranking with other general unsecured claims.

Court approval is required for assumption or rejection, sought by motion under the Federal Rules of Bankruptcy Procedure. The standard applied is business judgment, which is deferential; a counterparty rarely defeats a rejection by arguing that it is unwise.

The threshold question is whether the agreement is executory at all. A contract the debtor has fully performed is simply an asset; a contract the counterparty has fully performed is simply a debt. Neither is subject to section 365. Disputes therefore often begin with characterization rather than with the merits.

2.What assumption costs

• Defaults must be cured, or adequate assurance of prompt cure must be given. Certain non-monetary defaults that are impossible to cure are excused by the statute.
• The counterparty must be compensated for actual pecuniary loss caused by the defaults.
• Adequate assurance of future performance must be provided — a forward-looking showing about the ability to perform.
• The contract must be assumed as a whole. A debtor may not take favorable provisions and discard burdensome ones.

For a shopping center lease, adequate assurance is defined more specifically, extending to the source of rent, the financial condition of any assignee, percentage rent, and provisions about tenant mix and use. Those additional requirements exist because a single tenant's identity affects the whole center.

3.Clauses that do not survive

Two categories of contract language lose their force in bankruptcy. A clause that terminates or modifies the contract because of the debtor's insolvency, financial condition, or bankruptcy filing — an ipso facto clause — is generally unenforceable. And a clause restricting or conditioning assignment is generally overridden, so a debtor may assign despite a flat prohibition.

Both rules have exceptions. Where applicable non-bankruptcy law excuses the counterparty from accepting performance from, or rendering performance to, an entity other than the debtor, the contract may not be assumed or assigned without consent. That exception captures personal service contracts, many government contracts, and non-exclusive patent and copyright licenses. Circuits disagree on how the test applies where the debtor intends to assume without assigning, a split usually described as the hypothetical test against the actual test, and it remains unresolved as of mid-2026.

Caution: A counterparty that acts on an ipso facto clause — terminating on learning of the filing — risks violating the automatic stay. The safer route is to seek relief or to move to compel a decision, as described in the entry on the automatic stay.

4.Deadlines that force the decision

The commercial lease deadline is the one that shapes retail cases. It is why store closing decisions cluster early, and why landlords rarely need to do anything but wait and calendar. The consent requirement for a second extension gives landlords real leverage in negotiations over that period.

5.Rejection and its limits

Rejection is a breach, not a rescission. The Supreme Court confirmed that reading in a 2019 decision involving a trademark license, holding that rejection leaves the counterparty's rights under non-bankruptcy law intact — the licensee could continue using the mark. The principle has broad consequences: rejection frees the estate from performing, but it does not claw back rights already granted.

The Code makes that explicit in several places. A licensee of intellectual property may elect to retain its rights under the license for the balance of the term, continuing to pay royalties, though the debtor need not perform affirmative obligations. A lessee of real property whose lease is rejected may elect to remain in possession for the balance of the term, offsetting damages against rent. A purchaser in possession under a rejected land contract has a comparable election.

Damages claims are subject to statutory caps. A landlord's claim for future rent following termination is limited by formula, and an employee's claim under a rejected employment contract is limited as well. Those caps and the claim filing mechanics are handled through the process described in the entry on proofs of claim and objections, and the court typically fixes a special bar date in the rejection order.

6.Questions this raises

Is a contract that one side has finished still executory?

Generally no. If the counterparty has completed performance and only payment remains, the debtor owes a debt and there is nothing to assume. If the debtor has completed performance and only collection remains, the contract is an estate asset to be enforced or sold. Section 365 applies where meaningful obligations remain on both sides, which is why the characterization fight comes first.

Who pays rent between the filing and the decision?

For nonresidential real property, the estate must perform obligations arising after the order for relief on time until the lease is assumed or rejected, though a court may excuse performance for a short initial period. Unpaid amounts for that interval are generally treated as administrative expenses and paid ahead of ordinary claims. The pre-petition arrears are a separate matter: they are cured on assumption, or they become a general unsecured claim on rejection.

Can a landlord insist on a personal guaranty from an assignee?

Not as of right. Adequate assurance is judged against the assignee's own financial condition and operating history, and a court may find it satisfied without a guaranty. In shopping center leases the statute expands what must be shown, and landlords negotiate from that position. Whether a guaranty is required is ultimately a bargained term of the assignment order.

Does a collective bargaining agreement follow these rules?

No. Rejection of a collective bargaining agreement is governed by a separate section of the Code with its own procedure, requiring proposals to the union, good faith negotiation, and specific findings by the court before rejection is authorized. Retiree benefit obligations have their own provision as well. Neither can be handled by an ordinary rejection motion.

7.Steps for a counterparty

Identify immediately whether the agreement is a nonresidential real property lease, because its deadline runs on its own clock and needs no motion. Then confirm what is owed as of the petition date and what accrues afterward, keeping those two figures separate — they are treated differently at every later stage.

Preserve any deposit, letter of credit, or third-party guaranty and do not draw or terminate without advice, since some steps implicate the stay. If the debtor is silent for too long, move to compel a decision rather than waiting indefinitely. And if rejection comes, calendar the special bar date for damages, apply any statutory cap honestly, and consider whether a possession or license election under the statute is worth more than the claim. General procedural material is published by the federal courts and the U.S. Trustee Program.