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In re Penn Central Transportation Co.

argued: November 11, 1976.



Adams and Weis, Circuit Judges, and Gerry, District Judge.*fn*

Author: Adams

ADAMS, Circuit Judge.

The basic conflict in these appeals is between two financially troubled entities: the trustees of the Penn Central Transportation Company*fn1 and the City of New York. Specifically, we are called upon to review Order No. 2091 of the Penn Central Reorganization Court, in which the district court (1) enjoined the City of New York from proceeding with an in rem action to foreclose a tax lien against property leased by TraveLodge International, Inc. from Despatch Shops, Inc., a wholly owned subsidiary of Penn Central; and (2) ordered the Washington Federal Savings and Loan Association to transmit to Penn Central certain monies that TraveLodge had paid into an escrow account controlled by the Association.


TraveLodge leases from Despatch two parcels of land located in Manhattan. Under section 4.02 of the applicable lease, TraveLodge is required to pay to the landlord a basic rent as well as an "additional rent" equal to eighty per cent of taxes on the unimproved land and one hundred per cent of taxes on all improvements. Thus, the responsibility for the payment of the bulk of the real estate taxes imposed on the two properties is borne by TraveLodge.

These two parcels are also subject to a blanket lease between Despatch and Penn Central.*fn2 Penn Central's rights under the blanket lease go beyond those ordinarily enjoyed by a lessee: it receives all rents and income derived from the Despatch properties; it has the right to purchase any of them at cost; and in the event Despatch would sell any of the properties subject to the blanket lease, Penn Central would receive the proceeds. In apparent recognition of Penn Central's dominant position with relation to the parcels that are the subject of this action, TraveLodge has always looked to Penn Central as its landlord, and has paid to it all the basic rentals and the additional rentals as well. Moreover, before the commencement of the reorganization proceedings, it was Penn Central, not Despatch, that forwarded the "additional rent" payments to New York.

Since June 1970, TraveLodge has paid approximately $900,000 in "additional rent" to Penn Central. It has also delivered about $125,000 in real estate taxes to Washington Federal, which holds a mortgage on TraveLodge's leasehold; this sum was to be kept in escrow. Penn Central has failed to transmit to New York any of the money received from TraveLodge prior to March, 1975, and New York claims that more than $1,200,000 in back taxes and interest is owed on the two parcels. As a result, a tax lien on the two lots has arisen by operation of law.*fn3

In August 1975, New York commenced an in rem action to foreclose the lien for the unpaid taxes and interest. In response, TraveLodge petitioned the Reorganization Court for an order requiring New York to withdraw its in rem action; directing Penn Central to pay the outstanding real estate taxes and interest; and instructing Penn Central to pay future real estate taxes or authorizing TraveLodge to pay these taxes and offset such sums against future rent.*fn4

The Reorganization Court issued an order, on November 20, 1975, enjoining New York from continuing its attempts to foreclose the tax lien, directing Washington Federal to pay to Penn Central the monies contained in the TraveLodge escrow account, and denying TraveLodge's request that Penn Central be ordered to pay the accrued taxes and interest or to permit it to pay future taxes directly to New York. Both New York and TraveLodge have appealed to this Court for review of Order No. 2091. We affirm, with the clarifications set forth in this opinion. Our disposition, however, is without prejudice to the rights of New York and TraveLodge to commence future proceedings, consistent with the guidelines contained herein.


Paragraph 9 of Order No. 1 of the Reorganization Court prohibits all persons from interfering in any way with property possessed by Penn Central as owner, lessee or otherwise. In addition, Order No. 70 authorizes Penn Central to defer payment of certain taxes, including local real estate taxes.

New York urges that its foreclosure action does not violate Order No. 1 or Order No. 70, and tenders two arguments in support of its position. First, it asserts that the fact that the properties involved in this action are owned by Despatch, rather than by Penn Central, is of legal significance. Although Despatch is a wholly-owned subsidiary of Penn Central, New York asserts, it is not in reorganization and, therefore, not within the jurisdiction of the Reorganization Court. Thus, the City concludes, District Judge Fullam was without jurisdiction to enjoin New York's foreclosure action against Despatch. In advancing this contention, New York relies upon In re Beck Industries, Inc.,*fn5 in which the Second Circuit held that a bankruptcy court does not have jurisdiction over the property of a subsidiary of a debtor corporation.

New York's second set of arguments revolve around the proposition that Penn Central does not truly have a lease on the two implicated parcels. It claims, for example, that the trustees of the Penn Central estate never explicitly adopted the blanket lease, that the two ...

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