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What is an Executory Contract?

Patrick Austin, J.D. | September 11, 2024

Patrick Austin
Attorney from George Mason
Patrick Austin, JD

Patrick Austin is a licensed attorney with a background in data privacy and information security law. Patrick received his law degree at George Mason University's Antonin Scalia Law School, where he served as the Editor-in-Chief for the National Security Law Journal.

Edited by Hannah Locklear

Hannah Locklear
Editor at SoloSuit
Hannah Locklear, BA

Hannah Locklear is SoloSuit’s Marketing and Impact Manager. With an educational background in Linguistics, Spanish, and International Development from Brigham Young University, Hannah has also worked as a legal support specialist for several years.

Summary: For people involved in bankruptcy proceedings, the issue of “executory contracts” will likely need to be addressed. If you are wondering, “what is an executory contract?” then here is the answer: it is basically a contract where the parties still need to deliver something important. In the bankruptcy context, a debtor has the right to choose to keep or cancel these types of contracts.

If you are considering filing for bankruptcy, be prepared to address the issue of executory contracts. No, executory contracts are not a special contract for high-level, 1 percent executives. Rather, an executory contract is effectively a contractual agreement where certain obligations remain outstanding. In effect, an executory agreement will detail unperformed obligations and may set out the timeframe for those obligations to be performed.

If you’re being sued for violating an executory contract, you can use SoloSuit to respond.

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There are different types of executory contracts

Below are some common examples of executory contracts.

Property Rental Lease

Property rental leases are the most common and well-known example of executory contracts. In a rental lease agreement, the renter expects to reside in a piece of property and maintenance of the property. In return, the landlord expects regular rental payments, in addition to other stipulations (e.g., no pets allowed, maintaining rental insurance, etc.). The contract both parties enter into is an executory contract because it is ongoing and contains outstanding obligations that apply to both sides.

As an attorney working in private practice, I’ve drafted and reviewed different types of rental lease agreements. The terms may vary depending on state law and on the type of property being leased, but the agreement remains a prime example of an executory contract.

Automobile Lease

Leasing an automobile, also referred to as a car lease, is another common and well-known example of an executory contract. Someone entering into a car lease has expectations about the vehicle, including that the car is roadworthy, serviced, and insured. In return, the lessor will want to be sure that the property will not be damaged. An automobile lease agreement, which is the executory contract in this context, will likely describe the obligations and expectations for both parties, in addition to specific terms in case any contractual obligations are violated.

Lease for Equipment

A lease for equipment is a good example of executory contracts in business law. When leasing equipment or other real property (e.g., a dump truck for a manufacturing company, a server room for an IT company, etc.), there are specific expectations and obligations on both sides. The lessee will expect the equipment to be in good working order, have up-to-date service, and be able to perform the tasks required.

Conversely, the lessor will want their equipment to be cared for, to be reimbursed, and may have other requirements and stipulations regarding what jobs and tasks the equipment can and cannot be used for.

In this business context, an executory contract is likely to describe these ongoing obligations. For example, the contract may contain milestones such as service and return dates. The contract may also set forth penalties in the event conditions or provisions are not met.

Development Contract

Staying on the “executory contract in the business context” train, a development contract is another example of an executory contract. Building and development work can go on for long periods of time. As a result, ongoing expectations and requirements are typically memorialized in an executory contract.

A development contract may set forth obligations and stipulations pertaining to the work to be completed, working conditions, anticipated timescale, anticipated costs, payment terms, procurement terms, and so forth.

Intellectual Property License

An intellectual property (IP) license, often referred to as a license agreement, is another type of executory contract. An IP license typically involves a licensor giving permission for the licensee to use their IP. For example, the holder/licensor of IP may give permission for a licensee to use their graphics on the licensee’s website and in different types of branding. However, the licensor can also stipulate that the IP may not be used on social media platforms and in other areas. The licensor may also detail the contexts in which they do not want their IP used.

The licensee will, in return, state their usage needs and what they will pay. These details are likely to be set forth in an executory contract.

Executory contracts are different from other contracts—here’s how

An executory contract is notably different from other contracts that have been executed. With an executed contract, which may be referred to as a purchase agreement, the contractual agreement completes immediately upon signing. For example, in a real estate transaction, property officially passes from one party to another after all of the relevant parties sign on the agreement.

In contrast, executory contracts stipulate ongoing obligations. In the real estate context, as mentioned above, a lease agreement is a good example of an executory contract since the lease contains ongoing obligations. The lease terms will likely describe the obligations of the tenant during the period they are renting the property, in addition to the ongoing obligations of the landlord.

What is an executory contract in bankruptcy?

An executory contract holds a unique position in the world of bankruptcy. Why? Because such contracts are given special treatment under the federal bankruptcy code. Specifically, bankruptcy law may allow a petitioner to retain some of their executory contracts. For example, a bankruptcy petitioner may be obligated to return unpaid items, but will not be required to surrender an unexpired lease.

This is why, when someone formally files for bankruptcy, the bankruptcy court will attempt to identify which of the petitioner’s contracts are considered executory contracts.

Executory contracts that are “pre-petition” (i.e., they were signed prior to the bankruptcy petition being filed) do not have to be surrendered. Instead, the petitioner themselves decides whether to surrender or keep them.

Please note, if the petitioner wants to keep their executory contracts, they bear the burden of proving that they are able to pay the non-debtor party as required. This means someone filing for bankruptcy does not have to give up their apartment lease and become unhoused. However, the petitioner must affirmatively prove to the bankruptcy court that they can keep up their end of the executory lease contract in order to retain it.

What to do if you are sued for violating an executory contract

If you are sued for violating an executory contract, it’s important to take immediate action to protect your rights and avoid potential legal consequences. Here's a step-by-step guide on how to handle the situation:

  1. Review the Contract Terms: The first step is to carefully review the executory contract you are accused of violating. Identify the specific obligations that were allegedly unfulfilled. Understanding the terms and conditions will help clarify whether you are actually in breach of the contract.
  2. Seek Legal Counsel: It’s crucial to consult with a bankruptcy or contract attorney who has experience handling executory contract disputes. They can provide guidance on whether the contract is enforceable, whether you have valid defenses, and how the case may impact your bankruptcy proceedings.
  3. Assess Your Bankruptcy Status: If you are in the process of filing for bankruptcy, determine how the violation of the executory contract fits within your bankruptcy case. Depending on the stage of your bankruptcy, the contract in question may be treated differently. In some cases, contracts may be canceled or “rejected” in bankruptcy, which can shield you from liability.
  4. Consider Negotiating a Settlement: Depending on the nature of the alleged violation, it may be possible to negotiate a settlement with the other party. This could involve paying a reduced amount, renegotiating the terms of the contract, or working out a new payment plan. Legal counsel can help you navigate this process.
  5. Respond to the Lawsuit: Do not ignore the lawsuit. Failure to respond can lead to a default judgment, which could worsen your financial situation. Ensure that you file a formal response within the timeframe specified in the lawsuit, and consult with your attorney to craft a strong defense.
  6. Prepare for Court: If the case proceeds to trial, your attorney will help you gather evidence, including any documents or communications that show you made efforts to fulfill your obligations under the contract or that the contract was terminated in accordance with bankruptcy rules.

By taking these steps, you can protect yourself from further legal and financial consequences while navigating the complex issue of an executory contract violation during bankruptcy.

Let’s look at an example.

Sarah, a small business owner, leased equipment from David’s company but struggled to make payments after filing for Chapter 11 bankruptcy. Although she retained the lease, she missed several payments, leading David to sue her for breach of contract. Sarah’s attorney reviewed the lease and argued that David should have sought approval from the bankruptcy court before suing. Instead of going to trial, they negotiated a payment plan, allowing Sarah to catch up on payments and keep the equipment. David dropped the lawsuit, and Sarah’s business continued operating without further legal issues.

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In Summation

To sum it up, an executory contract is effectively a contract made between two parties that involve certain obligations that are to be executed over a period of time. They are common in the context of real estate (e.g., apartment lease) and in business dealings (e.g., equipment lease and IP license). If someone files for bankruptcy, executory contracts are treated differently from executed contracts.

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