In bankruptcy, whether a surety bond is an executory contract is not a question that is often addressed by the circuit courts of appeals. However, this determination is crucial for both debtors and creditors because only executory contracts can be assumed, rejected, or pass through in bankruptcy.
“A surety bond creates a three party relationship, in which the surety becomes liable for the principal's debt or duty to the third party oblige.” The term “executory contract” has not been defined within title 11 of the Unted States Code (the “Bankruptcy Code”), however the Supreme Court concluded that "Congress intended the term to mean a contract 'on which performance is due to some extent on both sides.'"
In 2022, the Fifth Circuit has provided some guidance on this issue. In Matter of Falcon, the Fifth Circuit held the surety bond agreement in this multiparty contract case was not executory and therefore could not be assumed under the reorganization plan. However, the court explained this holding should not preclude the possibility of future courts applying a more flexible approach when determining whether a surety agreement is an executory contract in multiparty contract cases.
This article explores the question of whether a surety bond is an executory contract in a threefold approach. Part I discusses how courts determine whether a contract is executory. Part II analyzes how executory contracts are treated in Chapter 11 cases and the effects of assuming versus rejecting a contract. Part III considers what the future of surety bonds in multi party cases may look like.