Executory Contracts and Unexpired Leases in Bankruptcy

Executory contracts and unexpired leases occupy a distinct and consequential position within United States bankruptcy law, governed primarily by 11 U.S.C. § 365 of the Bankruptcy Code. When a debtor files for bankruptcy protection, every ongoing contractual obligation — from commercial real estate leases to software licenses to collective bargaining agreements — must be evaluated for assumption, rejection, or assignment. The treatment of these agreements can determine whether a reorganizing business survives, whether a landlord recovers possession of property, and how creditors rank in the ultimate distribution of assets.

• Definition and Scope
• Core Mechanics or Structure
• Causal Relationships or Drivers
• Classification Boundaries
• Tradeoffs and Tensions
• Common Misconceptions
• Checklist or Steps (Non-Advisory)
• Reference Table or Matrix

Definition and Scope

Under the Bankruptcy Code, Title 11, an executory contract is one under which performance remains due on both sides of the agreement — meaning both the debtor and the counterparty still have material, unperformed obligations at the time of the bankruptcy filing. The Bankruptcy Code itself does not define "executory contract" by text; courts have widely adopted the Countryman definition, developed by Professor Vern Countryman in a 1973 Minnesota Law Review article, which describes an executory contract as one where the obligations of both parties are so far unperformed that the failure of either to complete performance would constitute a material breach excusing the other party's performance.

An unexpired lease is a subset of this framework: any lease of real or personal property that has not yet run its full term as of the petition date. Unlike expired leases — which give rise only to a claim for unpaid rent — unexpired leases carry ongoing burdens and benefits that the estate must actively manage under 11 U.S.C. § 365.

The scope of § 365 is broad. It reaches commercial and residential real property leases, equipment leases, intellectual property licenses, employment agreements, supply contracts, and franchise agreements. Certain categories are expressly excluded or treated differently by statute, including financial accommodations contracts (11 U.S.C. § 365(c)(2)), collective bargaining agreements (governed by 11 U.S.C. § 1113), and retiree benefit plans (11 U.S.C. § 1114).

Core Mechanics or Structure

The trustee or debtor in possession has three available actions for any executory contract or unexpired lease: assumption, rejection, or assignment.

Assumption means the estate elects to be bound by the contract and continues performance. To assume a contract under 11 U.S.C. § 365(b)(1), the debtor must cure all defaults (or provide adequate assurance of prompt cure), compensate the counterparty for actual pecuniary loss resulting from the default, and provide adequate assurance of future performance. Assumption makes the contract a post-petition administrative obligation, ranking as a priority administrative expense under 11 U.S.C. § 503(b).

Rejection is the estate's election to abandon the contract. Rejection is treated as a breach of the contract as of the petition date (11 U.S.C. § 365(g)), converting the counterparty's claim into a general unsecured pre-petition damages claim subject to the standard priority claims hierarchy. Rejection does not terminate the contract in the legal sense — it merely breaches it and converts the counterparty's remedy.

Assignment allows an assumed contract to be transferred to a third party even when applicable nonbankruptcy law would otherwise prohibit assignment. Under 11 U.S.C. § 365(f), anti-assignment clauses in contracts are generally unenforceable in bankruptcy, though the assignee must receive adequate assurance of future performance.

Timing governs all three options. In Chapter 7 cases, the trustee must assume or reject within 60 days of the order for relief unless extended by the court (11 U.S.C. § 365(d)(1)). In Chapter 11, 12, and 13 cases, the deadline is generally the date a plan is confirmed, though commercial real property leases carry a separate 120-day deadline for assumption — extendable by 90 days by court order — under 11 U.S.C. § 365(d)(4), as amended by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA).

Causal Relationships or Drivers

The assumption-or-rejection decision is driven by whether the contract's remaining performance represents net value to the estate. A below-market lease — for example, office space at $18 per square foot in a market trading at $28 per square foot — is a valuable asset worth assuming and potentially assigning. An above-market lease or an unprofitable supply contract is a liability, and rejection reduces the estate's ongoing burden.

Several factors feed into the decision. Courts apply a business judgment standard to assumption and rejection decisions: the trustee or debtor in possession need only demonstrate a reasonable business justification, not an optimal one. Counterparties challenging a rejection decision must show that the debtor lacked any legitimate business basis, which is a high bar.

Counterparty risk also drives the dynamic. When a key customer files Chapter 11, vendors face immediate uncertainty about whether long-term supply agreements will be honored — and at what cure cost. This uncertainty affects trade credit terms across the counterparty's supply chain, creating secondary financial distress that the automatic stay does not insulate the non-debtor side from experiencing.

Classification Boundaries

Not every ongoing agreement qualifies as executory, and the classification boundary determines whether § 365 applies at all.

Fully performed contracts — where the debtor has already received all consideration and only a payment obligation remains — are treated as ordinary debt, not executory contracts. A completed equipment sale with an outstanding invoice is a claim under 11 U.S.C. § 101(5), not an executory contract.

Expired leases whose terms concluded before the petition date generate only a pre-petition claim for unpaid rent. They cannot be assumed or rejected because there is nothing remaining to perform.

Intellectual property licenses receive special treatment under 11 U.S.C. § 365(n): if a debtor-licensor rejects an IP license, the licensee may elect to retain its rights under the license for the duration of the agreement, offset royalties owed against the damages claim, but loses the right to require the debtor to continue affirmative performance obligations.

Personal service contracts implicate the § 365(c)(1) limitation: if applicable nonbankruptcy law would excuse the non-debtor counterparty from accepting performance from or rendering performance to an entity other than the debtor, the contract cannot be assumed or assigned without the counterparty's consent. This applies most often to professional services engagements.

Financial accommodations — defined in 11 U.S.C. § 365(c)(2) to include commitments to extend credit or make financial accommodations — cannot be assumed or assigned at all.

Tradeoffs and Tensions

Section 365 sits at the intersection of two competing interests that the Bankruptcy Code never fully resolves: the estate's need for flexibility to shed burdens and maximize value, versus the counterparty's interest in contractual certainty and protection of its own economic position.

One persistent tension involves the ipso facto clause problem. Most commercial contracts contain clauses that declare a bankruptcy filing itself to be a default or event of termination. Section 365(b)(2) and § 365(e)(1) render these clauses unenforceable in bankruptcy, meaning a debtor can assume a contract notwithstanding such provisions. Counterparties frequently view this as a one-sided imposition that deprives them of a bargained-for exit right.

A second tension involves shopping periods. While a debtor decides whether to assume or reject — which may take months in a complex Chapter 11 — the counterparty must continue performing its own obligations. Courts can order the debtor to make post-petition payments to prevent unjust enrichment, but the counterparty cannot simply walk away. This dynamic has been intensified by BAPCPA's 120-day deadline for commercial real estate, which was a landlord-driven reform designed to force faster decisions.

A third tension involves the cure cost calculation. Disputes over the total amount of defaults requiring cure — especially in long-term leases with disputed maintenance obligations, percentage rent clauses, or contested breach allegations — can be expensive and can derail assumption transactions that otherwise make business sense.

Common Misconceptions

Misconception: Rejection terminates the contract. Rejection under § 365(g) is a deemed pre-petition breach, not a termination. The counterparty retains the right to assert a damages claim as a general unsecured creditor. The contract itself is not voided; only the estate's performance obligation is discharged through the breach treatment.

Misconception: A debtor can selectively assume favorable provisions while rejecting unfavorable ones. Courts uniformly hold that assumption or rejection is an all-or-nothing election. A debtor cannot cherry-pick beneficial contract terms while shedding burdensome ones from the same agreement. The contract must be taken or left as a whole.

Misconception: Anti-assignment clauses always prevent assignment in bankruptcy. Section 365(f) broadly overrides contractual anti-assignment provisions. The primary exception involves personal service contracts and situations where applicable nonbankruptcy law (not just the contract itself) would prohibit assignment — an important distinction courts scrutinize carefully.

Misconception: Every ongoing business relationship is an executory contract. The Countryman test requires mutual material unperformed obligations. A completed sale with an unpaid invoice, a fully drawn line of credit, or a warranty obligation running only in one direction may not satisfy the test, placing the claim outside § 365 entirely.

Checklist or Steps (Non-Advisory)

The following sequence reflects the statutory and procedural stages involved in the assumption, rejection, or assignment of an executory contract or unexpired lease under 11 U.S.C. § 365. This is a reference description of legal process mechanics, not guidance for any specific situation.

1. Identify contracts and leases in the estate. The bankruptcy schedules (Official Form 106G/206G) require disclosure of all executory contracts and unexpired leases as of the petition date.
2. Apply the Countryman test. Assess whether mutual material obligations remain unperformed on both sides. Contracts that fail this test are treated as ordinary claims under 11 U.S.C. § 101(5).
3. Determine applicable deadline. Chapter 7: 60 days under § 365(d)(1). Chapter 11 commercial real property leases: 120 days under § 365(d)(4), extendable once by 90 days. Other Chapter 11 contracts: plan confirmation date.
4. Evaluate business judgment basis. Document whether assumption or rejection serves a legitimate business purpose, sufficient to meet the business judgment standard applied by courts.
5. If assuming: calculate cure amount. Identify all pre-petition defaults — monetary and non-monetary — and determine the cure cost required under § 365(b)(1)(A).
6. Demonstrate adequate assurance of future performance. Provide evidence sufficient to satisfy the counterparty and the court under § 365(b)(1)(C), or § 365(b)(3) for shopping center leases (a heightened standard).
7. If assigning: verify anti-assignment overrides. Confirm that § 365(f) applies and that no applicable nonbankruptcy law independently bars assignment. Provide adequate assurance for the assignee.
8. File motion or include election in plan. Assumption or rejection may occur by motion or as part of a confirmed reorganization plan. Counterparties receive notice and opportunity to object under Federal Rule of Bankruptcy Procedure 6006, part of the Federal Rules of Bankruptcy Procedure.
9. Obtain court approval. For assumptions outside a confirmed plan, a court order is required. Rejection typically requires approval unless the deadline passes and the contract is deemed rejected by operation of law.
10. Record treatment in distribution schedule. Rejected contract counterparties file general unsecured claims; assumed contract obligations rank as administrative expenses under § 503(b).

Reference Table or Matrix

References

• [11 U.S.C. § 365 — Executory Contracts and Unexpired Leases (Cornell Legal Information Institute)](https://www.law.cornell.edu/uscode/text

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