What exactly is encumbered code?

Solution 1:

It is a general legal term, not specific to software or intellectual property. An "encumbrance" means "a claim by someone to some legal rights relating to something owned by someone else". https://en.oxforddictionaries.com/definition/encumbrance #1.1

For example, in the property that I live in, there is an "encumbrance" that the owners of the neighbouring property must be allowed access to do maintenance on the parts of their own house which are only accessible from the land surrounding my house.

Thus "encumbered code" means computer code that is subject an encumbrance - i.e. to a claim of legal rights by a third party.

Solution 2:

Encumbered code is software that cannot be freely distributed due to intellectual property rights.

UNIX Systems Laboratories (USL), later acquired by Novell, sued Berkeley Software Design (BSD) claiming parts of BSD/386 copied from Net/2 were derived from UNIX and therefore the intellectual property of USL.

In the settlement, BSD stipulated that Net/2 was encumbered by UNIX copyrights. Meanwhile, USL disclaimed any intellectual property rights to software in 4.4BSD-Lite, which left that distribution unencumbered.