Unenforceability of Ipso Facto Clauses

Ipso Facto clauses are provisions in a contract providing that a party to the contract will be in default in the event of insolvency or due to the party’s financial condition. These provisions can cause headaches and heartburn, particularly when a party—or parties—are entering into bankruptcy proceedings. This blog will explain the limits of ipso facto clauses and why Florida courts decline to enforce them.

Unenforceable Under the Law

Section 365, Florida Statutes, expressly invalidates ipso facto and other clauses that automatically terminate or modify a contract or lease upon a bankruptcy filing. In re Yates Dev., Inc., 241 B.R. 247 (Bankr. M.D. Fla. 1999).

This includes clauses that provide the non-debtor party with the ability to terminate or modify the contract or lease in the event of a debtor party’s bankruptcy. Id. Such clauses are also invalid and therefore unenforceable under the law.

Examples of Ipso Facto Clauses

Ipso Facto is a Latin phrase translating to “by the fact itself.” In the context of contracts and leases, an Ipso Facto clause provides for a default in the event of the financial condition of the debtor.

A provision providing that the debtor commits a default on a contract or lease simply by filing bankruptcy is the customary ipso facto provision. 11 U.S.C. §365(b)(2) (2024). An ipso facto clause can take many forms with different verbiage. For example, some ipso facto clauses may define an “event of default” as, among other things, filing for bankruptcy. This sort of clause can be easy to miss if it is buried in a list of various other “events of default.”

Another kind of ipso facto clause may provide the non-debtor party with the right to terminate a lease or contract in the event of an “act of bankruptcy.”

Why Ipso Facto Clauses Strike Out

The effect of ipso facto clauses is a default due to the financial condition of the debtor. Often times, any default or breach of an agreement gives rise to damages. This creates the unsustainable condition of an already indebted party suddenly incurring more debt through the triggering of these provisions in any contract or lease.

Ipso Facto clauses are therefore invalidated because they deprive the Chapter 11 estate of valuable property rights at the very time the debtor and estate may need those rights the most to further rehabilitation efforts. Id.; se also In re Ernie Haire Ford, Inc., 403 B.R. 750, 758 (Bankr. M.D. Fla. 2009).

By rendering these provisions unenforceable, Florida courts have protected debtors and their estates from this set of circumstances. Consequently, a trustee is absolved of any obligation to cure a default under an ipso facto provision. 11 U.S.C. § 365(b)(2) (2024).

Conclusion

Those in bankruptcy do not need to fear the applicability of ipso facto clauses. Florida courts have routinely held such provisions as unenforceable and do not oblige trustees or debtors to cure defaults emanating from an ipso facto clause. While this chiefly benefits debtors, creditors should also be aware of this reality to better safeguard their interests within the bounds of the law.