Chapter 11 Bkcy

Bkcy Ct J/D
Basic j/d grant for bkcy cts is in 28 USC 1334: the district courts shall have original but not exclusive j/d of all civil

proceedings arising under title 11, or arising in or related to cases under title 11.

Dist ct judges are Art III judges, bkcy cts not Art III judges but Art I judges
the district court in which a case under title 11 is commenced or is pending shall have exclusive j/d-o
(1) of all the property, wherever located, of the debtor as of the commencement of such case, and of property of
the estate; and
o
(2) over all claims or causes of action that involve construction of section 327 of title 11, United States Code, or
rules relating to disclosure requirements under section 327.
Under broad grant of j/d in 1334 is distinction b/w core matters & related matters in 28 USC 157

Core matters - matters that arise under the bkcy code & bkcy judge should rule on
Related to matters (non core) - parties can agree or object to bkcy judge deciding on related matters

o
Bkcy judge makes suggestion that goes to dist ct for a determination on related matters
o
General test for related matter - matter has to have a conceivable effect on the bkcy estate

If not a core matter & not related matter, no bkcy ct j/d to hear case
Fed cts cts of limited j/d; have to trace their authority to Art III of const
Bkcy cts created pursuant to Art I of const; 1st appeal from bkcy cts go up to dist ct
Bkcy cts are units of dist cts; bkcy petitions are, as a matter of law, filed in dist cts & dist cts have general order of referral

to send bkcy cases to bkcy cts

Bkcy judges appointed by circuit cts, but are a division of dist cts
Stern v. Marshall

Facts - ANS filed bkcy in CA, son in law sued her for defamation in bkcy ct & she filed counterclaim against him
Issue - does bkcy judge have power to sign final order in this situation or only the power to make a recommendation to dist

ct for proposed judgment, which signs final order

Holding - bkcy ct's entry of final judgment on debtor's counterclaim against creditor, though valid under 28 U.S.C. 157,
violated Art III of Fed Const
o
Bkcy ct had statutory authority to enter final judgment on counterclaim, but not const authority
o
Bkcy ct didnt have authority to enter a final judgment on a state law counterclaim that is not resolved in the
process of ruling on a creditors proof of claim
Rationale - While 157 purported to extend bkcy j/d to any counterclaim by the debtor, the bkcy ct was not established

under art. III and was not subject to the const assurances of independence which would allow adjudication of the debtor's state
common law claim.
o
Resolving creditors claim wouldnt necessarily resolve debtors counter claim & debtors claim was otherwise
unrelated to the claim-allowance process

b/c of this, bkcy ct lacked authority to enter final judgment on the counterclaim; only Art III judge could
o
Counterclaim to proof of claim is a core matter thats supposed to be heard & decided by bkcy ct
SCOTUS said that even though its a core matter, bkcy ct didnt have const authority to sign final

judgment
o
Doesnt matter if something is inconvenient if it doesnt pass const muster
Alternatives to Chpt 11
Chpt 7 Biz Liquidation
Biz get no exemptions; all of its prop is subject to liquidation

Biz get no discharges; end of chpt 7 isnt that biz keeps going on after chpt 7, instead biz winds up under state law
o
For biz, filing for chpt 7 means end of that biz/death of that biz
o
Chpt 7 a lot more rare for biz
Sec 507 still governs payments to unsecured creditors; Priority rules still apply in biz liquidation

Involuntary Bkcy - Sec 303 - If debtor has 3 or more creditors who have unsecured, non-contingent, & non-disputed debt
& over 14,425, those creditors can force biz into bkcy
If debtor has fewer than 12 creditors, than 1 creditor w/more than 14,425 claim can force involuntary bkcy

Would force debtor into bkcy if the situation is getting worse & creditors are trying to stop the bleeding
o
Bkcy gets a better return than foreclosure b/c you can sell the entire biz, which might be worth more than
the value of the assets individually; Can also wait a bit to sell assets, possibly getting a higher return
o
If someone has an unperfected security interest, you could force a bkcy to prevent other party from
perfecting the security interest, making it a bigger pie for the unsecured creditors

If creditors file for involuntary bkcy, debtor can resist bkcy, convert it to chpt 11, or go along w/bkcy
If debtor opposes bkcy, creditors have to prove that debtor isnt paying undisputed debts as they come due
o
Risk is that if creditor files involuntary bkcy & ct decides it wasnt legit under 303(i), ct can require
creditor filing for involuntary bkcy to pay debtor's attny fees & there could be sanctions if it was brought in bad faith
While involuntary bkcy is rare, it is important in negotiations
o
Creditors have leverage of credit default swaps; loans have provision that something occurs if debtor files
for bkcy, itll trigger econ consequences
Possible meanings for generally not paying debts as they come due
o
Bkcy code doesnt look at the balance sheet to see if there are net positive assets, but whether you have
the cash flow to pay debts as they come due, not the ability to pay debts in the future
o
Could look at % of creditors not being paid on time or % of total debt not being paid on time
o
Could be that debtor is paying all his debts, but making all the payments late

If debtor is only making partial payments on time, could not fall w/in paying debts as they come
due
o
Does not paying critical vendors fall w/in not paying debts as they become due?
Once you figure out proper test for j/d, how do you determine if they meet the standard for involuntary bkcy?
o
Credit report could be helpful, but might not capture most up to date info; could be under inclusive
o
Could ask to see corps books to see what payments theyre making/what they owe, but corp might say no
o
Could try to contact other creditors to see what debtor owes/what debtor is paying
o
Could google debtor to find out info about what debts it owes/what debts its paying
o
Could sue debtor/file for involuntary bkcy & conduct discovery to see if theyre paying bills; high risk
Sec 303(a) - can only bring involuntary case under Chpt 11 or 7 & only against a person, except a farmer, family
farmer, or a corp that isnt a moneyed biz or commercial corp, that may be a debtor under the chpt under which such case is
commenced; Person has to be an eligible debtor under the chpt creditor uses
o
Sec 101(20) -farmer someone who operated a farming operation & got 80% of their income from that
operation
Sec 101(21) - farming operation includes production or raising of livestock & production of

livestock products in an unmanufactured state

Sec 303(i) - permissive for ct to awards costs/reasonable attny fees if improper involuntary bkcy filed

Intro to Chpt 11
Bkcy ct driven process
Bkcy cases started w/petition filed in fed bkcy ct; has basic info: entity name, rep, where HQ is located, etc
Difference b/w Chpt 11 & Chpt 7/13

While biz in chpt 7 are not granted any discharge, biz can get a discharge after chpt 11
In chpt 13, plan pays secured & preferred unsecure debts in full & remaining unsecured creditors get % of their

claims paid over 3-5 yrs

o
In chpt 13, if plan conforms to statutes, then plan gets confirmed; dont need creditor approval

In chpt 11, creditors have to approve plan & no set time to make payments
o
In addition to creditors voting on plan, ct scrutinizes debtor's conduct during course of bkcy
o
No trustee appointed typically in chpt 11, debtor in possession, DIP, continues operating biz under watch
of ct
o
Price of chpt 11 much higher than price of chpt 13 bkcy; chpt 11 sufficiently complicated & worth it to
litigate issues in chpt 11 to preserve value of corp/claims that offsets huge costs
Debtors use chpt 11 to maximize value of assets & get breathing room from creditors so they can trim bad assets,
employees, etc. to become a leaner, more efficient corp
At end of day, goal of chpt 11 filing is to get a reorg approved by ct & creditors
Venue for Chpt 11: (1) district where biz is incorporated (most often delaware); (2) Principal place of biz, nerve center
(where are corp decisions made); (3) Principal place of assets; (4) If affiliate entity is in the j/d, bkcy can be filed there (enron)

Over 80% of chpt 11 bkcy cases filed in Delaware & SD NY; preferred venues for large chpt 11 filings
99% of the time, bkcy dealing w/entities in financial distress

Entities that file for chpt 11 file for bkcy for 2 reasons causing financial distress
o
Operating problems - problems w/basic biz (ie biz model becomes obsolete)
o
Financial problems - biz model working, but corp takes out too much debt or theres a credit crunch
which causes corp to run out of cash
o
Could have, 1 the other or both
Petition date - date on which chpt 11 petition is filed to start the case (work done well b/f petition date)

Several motions have to be prepped to be filed on 1st day

Interim cash collateral, Interim debtor in possession, Etc.
Confirmation date - goal in chpt 11 is to get plan confirmed
Some debtors attnys try to get plan on file that they know other parties will object to w/o negotiations w/other parties
Other parties will object, leading to negotiations & filing of amended plan 1

Could lead to another creditor negotiating a deal & amended plan 2

Last creditor could ask for a better deal than other creditors got

o
Depending on if law says creditors have to be treated the same or one can be treated more favorably,
could lead to debtor deciding to go to ct or agreeing to favorable terms for last creditor

Rarely is the original plan thats filed the final one that gets approved
Plans can have most favored nation status; debtor cant cut more favorable deal for other creditors unless most

favored creditor also gets that deal or most favored creditor will object to new plan that benefits 2nd creditor more

If plan is confirmed over creditor objections, previous obligations are gone & new plan acts as debtor's new Ks
w/all of its creditors
o
Rejecting offer could lead to worse deal in a confirmed plan than what was offered
Types of reorg

Balance sheet - reorg done on paper as opposed to shifting operations; reorg purely financial, biz operations
remain the same
o
Done by writing down debts or eliminating them; might have good revenue stream, but not enough to
meet debt burden
o
can be done by changing ownership of sections of biz, selling off divisions/manufacturing lines so reorg'd
biz is smaller even if pieces survive under other corp names
Change of operations - wholesale reshuffling of debtor; use AS to close/reduce money losing divisions, trim excess

staff, refocus product lines, etc

o
In retail biz, often involves closing unprofitable stores while improving those that remain
o
In manufacturing, could involve closing most out of date plants & dropping peripheral lines

Biz reorg in chpt 11 produces smaller, leaner corp w/reduced debt burden able to concentrate on type of biz it does
well
Key point - in either type of reorg, all or some large part of biz is preserved as a going concern, not sold off asset

by asset
o
Whole is greater than the sum of its parts
Liquidation - provides no advantage to debtor; basically death of biz org
No exemptions & no discharge from debt

Advantages of Chpt 11 Reorg

Managers have commitment to keeping as many jobs for employees as possible & avoid liquidation

o
May feel theres a good chance in the long run to save something for equity SH

Manager, who face termination of jobs in liquidation, have hope of keeping jobs after chpt 11 reorg
o
Also retain control of biz as long as they can hold on, giving a chance to show they can manage
successfully
Turn Around Mgmt Firms - if managers/officers are ones who drove biz into chpt 11, can hire outside firms to come in &
manage biz to get it back on its feet
Costs of Chpt 11 - Unlike consumer bkcys, biz bkcys are often tailor made to individual biz & are profoundly complex;
means chpt 11 bkcy cost $
Need attnys, accountants, appraisers, etc., all of which cost

Also have indirect cost in lost value in biz due to filing for bkcy
o

Mechanics of Chpt 11
Debtor files chpt 11, 362(a) imposes AS & prop of debtor becomes prop of BE
DIP - after filing, debtor takes on new legal persona of Debtor in possession - 1101
DIP retains possession/control of BE prop & admins BE prop; DIP has many of the same rights/obligations as TIB

- 1107

Like TIB, DIP acts on behalf of all creditors, not merely for itself (can attack fraudulent conveyance that debtor
couldnt)
First Day Orders - usually entered w/o notice or opportunity to be heard for many stakeholders; can be obtained ex parte

Often temporary orders, but often difficult to alter rights/practices established in 1st day orders later on
Additional injunctive relief beyond AS

Requirements for operating reports

Authorization to buy/sell outside ordinary course of biz, authorization to pay employees wages due, & other
operating items

Use of cash collateral & other matters related to cash mgmt

364 - Approval of DIP financing arrangement

Employment of counsel for debtor & UCC

Biz continues to operate in ordinary course, 363(c), under DIP control

DIP can operate biz in ordinary course w/o ct approval of all routine transactions
DIP limited in use of its assets that are subject to security agreements - 363(e)

For big biz, usually turn around firms are hired to get biz back on track
Possibility secured creditors will seek ct approval to lift AS as to their collateral unless DIP provides adequate protection 361, 362(d)
Avoiding powers - DIP has same powers as TIB to avoid pre petition trans
Preferences 547 - payments/transfer of prop to favored creditors w/in 90 days of filing

Executory Ks/unexpired leases 365 - can assume/reject/assign outstanding executory Ks or unexpired leases
Fraudulent conveyances 544(b), 548 - can void fraudulent transfers

544(a), 547 - set aside unperfected/late perfected security interests in debtors prop
542, 543 - require turnover of prop of debtor being held by another entity

Important powers, but threat of using them often helps DIP in negotiating plan w/creditors
UCC 1102 - unsecured creditors committee; appointed to scrutinize debtors activities on behalf of all creditors & negotiate
w/debtor
Plan - debtor will propose plan of reorg in which itll offer to pay each class of creditors a certain % of their claims over a
stated period of time
Payment can be made in cash, prop, or securities issued by reorg'd debtor (ie new stock)

Disclosure Statement - plan accompanied by DS, which provides info to creditors about prop, finances, etc of
debtor so that they can make an informed vote on whether to approve/reject plan
Plan & DS sent to creditors, after DS approved by ct after notice & hearing, so that they can vote on plan

o
1129(a) - requirements for plan confirmation; (a)(8) need all impaired classes to vote to approve plan

(a)(7) - every creditor who votes against plan will get at least as much under plan as they would
in chpt 7
1141(d) - upon confirmation of plan, debtor is discharged from all pre-petition debts, except as provided in plan

In chpt 13, dont receive discharge until payments under the plan are complete & chpt 7 doesnt give biz any
discharge
Tools Chpt 11 Gives Debtor
creditors can file involuntary chpt 11 petition, 303(a), which could lead to liquidation, 1123(b)(4), debtors have tools that
make creditors want to work things out
AS provides debtor breathing room to get affairs in order & cut unprofitable areas of biz
Debtor can propose a plan, which if adopted would legally bind all creditors even if a minority reject it
Debtor has exclusive right to propose such a plan for 6 months or more
Turnover & Avoiding powers - can greatly augment assets available & provide leverage over certain creditors
Analysis of Chpt 11 Negotiation
Litigation delay - debtors want to get plan in w/in 120 day exclusivity period, 1121(b) (can be extended)
b/c litigation is lengthy/costly process, debtors often willing to negotiate to settle any outstanding lawsuits it might

have or that creditors have against it

Litigation trust - Plan might call for establishing escrow account of money/prop pending resolution of litigation
o
Plan might say that if case is won, prop goes to creditor X, but if it loses, those proceeds go to the gen
unsecured pool
o
Born of effort to confirm reorg plan quickly while continuing litigation that might eventually yield assets
for creditors
o
Leaves creditors w/o bottom line saying what they can expect to get in bkcy; plan/DS will often say that
if litigation is successful, class X will receive Zc/$ but if the litigation fails, then they only get Yc/$
DIP - exercising control over biz on behalf of the biz itself, SH, creditors, employees, the community, etc.

Cong has indicated that DIP should be concerned about protecting interests of a number of different constituencies
of a biz following a default

Nontraditional Chpt 11 Cases

Auctions - sale of entire biz through auction process; sales negotiated by attnys & investment bankers
Auctions almost always mean that SH get nothing from plan

Auction can be held pursuant to a confirmed plan, but often isnt

o
If not done under a confirmed plan, 363 allows sale prior to any creditor vote & plan is simply
mechanism for authorizing the auction & distributing the proceeds
Prepackaged Plans - debtor negotiated b/f bkcy w/its creditors, but needs help of BC to close the deal

Eg - one large creditor refuses to accept proposal; in bkcy it can be outvoted by other creditors & have plan
crammed down
Under some local rules, these cases can proceed w/far less public disclosure of info than in traditional chpt 11

plans

May or may not be liquidating plans

Other Types of Chpt 11 Cases
Single Asset Real Estate (SARE) Cases - SARE defined in 101(51B); biz whose only real asset is a single piece of real
estate & income comes from that asset; no other substantial biz operations done on prop

Eg - running a apt complex/office building; money comes from just collecting rent
Typically 2 party fight b/w debtor & main creditor (mortgage lender)

Liquidation in Chpt 11 - often associated w/auction or prepackaged plans

Chpt 11 provides highly flexible approach to maximizing sale value of debtors assets, especially if sold as a going

concern

b/c chpt 11 is a negotiated resolution of debtors bkcy case, it allows more flexibility in realizing & distributing
value than fixed rules of chpt 7 subject to TIB supervision

Players in Chpt 11 Bkcy

Bkcy Code treats different types of creditors differently; waterfall ranking

Debtor in Possession 1101 - After filing for bkcy, its the entity that was a debtor that holds the
assets

1107(a) - DIP for the most part performs same functions as TIB; DIP both enjoys rights and must fulfill duties of
TIB

Unsecured Creditors Committee 1102 - Made up of, generally, of unsecured creditors & its
appointed by US Trustee; most chpt 11 cases have a UCC

As a general rule, UST likes to appoint largest unsecured creditor thats not an insider to the debtor to UCC
o
Reason to be on UCC is to look after interests of unsecured creditors
As an official committee, UCC can engage its own counsel & other professionals (paid for by bkcy estate)

o
Allows for unsecured creditors to have adequate rep in case w/o any individual creditor having to pay for
it

Being on UCC gives creditor influence over the case; can be heard by bkcy judge
1103(c)(5) a comm appointed under 1102 may perform such other services as are in the interest of those rep'd

United States Trustee - Basic function is to prevent fraud in the system; ensure that bkcy
system works the way its supposed to work
Function: Chooses UCC members; acts like attny gen in bkcy; has right to be heard on any issue in bkcy ct (can

object/support motions, fees, etc.)

BE has to pay quarterly fees that go to pay for UST operation (based on revenue being generated); judge cant
approve plan unless debtor is current on UST fees
Equity Committee - when it is appointed, formed to look after interests of owners/shareholders

NOT appointed in every case; someone has to file motion to ask judge to create equity committee
Judge looks to whether theres enough value above unsecured debt so that equity shareholders would recover

something

Most cases, biz clearly insolvent (debts larger than asset values), no good rational to have equity comm
Could have other types of comms like bondholder comm or groups of types of creditors; Not appointed in every

case
o
Purpose to have BE pay for professionals (attnys & accountants)

Have to show judge theres a special need to have separate rep for this specific group
Chpt 11 Trustee 1104 - Not appointed unless bkcy judge orders that a chpt 11 trustee be
appointed

In most cases no chpt 11 trustee; debtor remains in possession of its assets & has management rights
In cases where theres evidence of fraud, mismanagement, depleting assets, etc. & a motion is brought to bkcy ct, ct

may appoint chpt 11 trustee

o
UST appoints chpt 11 trustee after ct directs chpt 11 trustee be appointed

Essentially displaces management of DIP; runs reorg of biz

Paid pursuant to statute out of BE; Chpt 11 trustee can hire attny, accountants, etc. that are paid out of BE

1104(a)(1) - can appoint TIB for cause based on showing of fraud, dishonestly, incompetence, gross mismgmt, or
similar conduct by DIP
1104(a)(2) - bkcy ct can appoint TIB in the interests of BE or its creditors based on factual assessment of whether

doing so is in the best interests of creditors

o
Appointing TIB/other fiduciary to each debtor would result in balkanization of decisionmaking for all
debtors, increasing costs & causing inefficiency - Adelphia
Chief Restructuring Officer (CRO) - Can be an individual or entity/co.
Trend
has
been
to
appoint CROs for DIP to lead restructuring efforts & negotiate w/creditors; acts as a buffer b/w

biz & legal teams

o
Biz people who are skilled & experienced at chpt 11; takes burden off management at chpt 11 debtor

Paid for by BE
CRO doesnt appear in BC; attny created concept that judges accepted

For the most part selected by DIP's board or on recommendation from DIP's counsel; sometimes creditors demand
having a CRO & will give DIP a list of candidates
BE 541 - When bkcy is filed, mythical estate (legal fiction) is created; BE takes possession of all
applicable prop

541(d) - BE comprised of all legal or equitable interests of debtor in prop as of commencement of case; Prop
rights defined by state law

In re Scotia Pacific Co - commissions owed by debtor were prop of BE b/c of debtor/creditor

relationship & Scopac's interest in prop

Commissions paid to Scopac, who would then pay agent his share
BE created to allow corps to reorganize, instead of liquidate, & keep it running

o
Lets management who ruined corp get 1st shot at trying to fix corp & make it profitable again

Dont automatically appoint a trustee whose sole job is to shut down corp & liquidate
o
Chpt 7 bkcy is pure liquidation bkcy; trustee would be appointed
1108 - Trustee or DIP is authorized to manage prop of BE

542(b) - Have to pay debts owed to debtor to TIB unless debt can be offset under 553
Secured Creditors - At top of food chain in bkcy; Not representing estate or unsecured
creditors; rep themselves

Pitted/adverse to UCC; secured creditors want collateral for itself that UCC is trying to get for its constituents
506 - only have allowed secured claims to the extent of the value of the collateral securing the loan; any deficiency

is treated as an unsecured claim

o
Security interest can include provision which says secured claim includes attny fees, would be included in
claim at confirmation meeting

Can only get interest & fees + value of debt up to value of prop at time of filing for bkcy
o
As a general rule, secured creditors get most of the payments in bkcy & unsecured creditors get less cents
on the dollar & shareholders get next to nothing
o
Bkcy judge makes judicial determination (finding of fact) on value of collateral
Experts come in to testify about value of collateral; each of the litigating parties can have its own

expert
Estate Professionals - all paid out of BE
Counsel for debtor, Counsel for UCC, Counsel for Chpt 11 Trustee, CRO, Accountants, Investment bankers,

Counsel for equity/other comms (if the judge approves the comms)
Compensation of professionals 330: In determining amount of reasonable compensation to
professionals, ct shall consider the nautre, extent, and value of such services taking into account all relevant factors including
Time spent on services

Rates charged for services

Whether services were necessary to admin of, or beneficial at the time services was rendered toward completion of

bkcy case

Whether services were performed w/in reasonable amount of time, considering complexity, importance, & nature
of problem
Whether compensation is reasonable based on usual compensation of similarly skilled professionals in other cases

11 USC 102 authorizes award of compensation from BE to officers (including attnys) who help administer BE
11 USC 104 gives costs incurred in connection w/admin of BE priority over other debts of debtor

Compensation of Attnys in Bkcy - 12 Factors - In re First Colonial Corp

o
Time & labor required
o
Novelty & difficulty of the questions
o
Skill required to perform the legal service properly
o
Preclusion of other employment by the attny b/c he accepted the case
o
Customary fee
o
Whether the fee is fixed or contingent
o
Time limitations imposed by client/other circumstances
o
Amount involved & results obtained
Attnys dont get credit for what a case couldve gotten at trial if its settled for less b/f hand

Would force clients to pay for a benefit they never receive

o
Experience, rep, & ability of attny
o
Undesirability of the case
o
Nature & length of professional relationship w/client
o
Awards in similar cases

Two additional considerations in bkcy context - First Colonial

o
Strong policy of bkcy act that BE be administered as efficiently as possible
o
Peculiarities of bkcy practice which could lead to award of duplicative fees or compensation for non legal
services if overlooked

Ie award of ad interim allowances & possibility that some officers of ct may be providing
services to BE in more than one capacity
Three step process to determining reasonable attny fee - First Colonia
o
Bkcy judge/dist ct ascertains nature & extent of services provided by attny

Each attny required to file statement laying out # of hrs worked & how time was spent
o
Bkcy judge/dist ct assesses value of services
No expert opinion required, but can be allowed

o
Determine amount of compensation based on value of services & services provided

Bkcy judge has to explain his findings & reasons for granting fees, including how factors were
considered
3 stages of attny in chpt 11 - Universal Building Products
o
Get employed by debtor/UCC/etc,
o
Get plan confirmed
o
Get fees paid by applying to ct to have it approve fees & then go to reorgd debtor to get paid
Objecting to fees - In re Interlogic Trace Inc
o
Facts - TIB brought suit against accountant in state ct for neg, & malpractice in connection w/Debtors
chpt 11 case
o
Holding - granting attny fees & malpractice claims for same services involve common nucleus of
operative facts
IT had enough general awareness of claims to be brought against accountant that it shouldve

brought objections at fee hearing

b/c it didnt, res judicata will apply & TIB cant pursue malpractice claim
o
Rationale - central issue in both fee application & present CoA was provision of accounting services
during chpt 11

By granting fees, bkcy ct implied it found that the services had quality & provided value to BE
TIBs malpractice claim involves the nature of the services provided to BE that bkcy ct had

granted fees for

IT had some questions about whether it go its moneys worth for some of accountants services;
sufficient to put them on notice to bring objection/claim against accountant when it requested ct approval of fees
Fee hearing provided an opportunity for IT to present its malpractice claims

o
Nielsen Transactional Test - for res judicata to apply, need

Identical parties in both suits

Res judicata doesnt apply unless P could & should have brought malpractice claim in
earlier proceeding

Factors: whether earlier proceeding was adversary proceeding/contested matter, nexus

b/w earlier proceeding & claims now asserted, amount of time elapsed since case began
Prior judgment rendered by ct of competent j/d

Final judgment on the merits

Same CoA must be involved in both cases

Pro-snax (5th Cir) - rejected attnys fees b/c there was no benefit to BE
o
Some interpret this case to say attnys dont get paid unless plan gets confirmed b/c if theres no approved
plan, then theres no benefit to the BE
o
Pro-snax only 5th cir, other circuits look at what attnys have done to see if at the time they were
providing services, was it reasonable to provide those services at that time
Disqualification of Professionals
327(a) - attny rep'ing BE in bkcy action must not hold or rep an interest adverse to BE and must be
disinterested
o
doesnt indicate per se ban or gen rule, but needs fact specific inquiry into parties' interests & alignments
Simply b/c potential for CoI exists doesnt render appointment of counsel nugatory, but makes it

voidable as facts warrant

Disinterested 11 USC 103(13)(E): an party is disinterested when he doesnt have an interest materially adverse
oto interest of BE or to any class of creditors or equity security holders by reason any direct or indirect relationship to debtor or
for any other reason
1103(b) - Comm counsel may not rep an entity w/interest adverse to comm; Rep of a creditor in the case isnt a per
se disqualifying factor
In re WF Development Corp - Where one attny reps both a ltd p & gen ps in bkcy, there will ALWAYS be the
potential for conflict & disqualification is proper

Rationale - in bkcy proceeding, limited & gen ps hold interests adverse to each other b/c gen p's assets
are at risk to pay debtor's liabilities, where as ltd ps have limited liability for pship obligations

Dont need to hold full hearing on whether theres a CoI in rep'ing ltd p & gen p in bkcy b/c
potential for conflict always exists in case like this
BR 2014(a) application of any professional seeking retention by debtor or comm shall include a verified statement

of the persons to be employed

o
Has to include persons connections w/debtor, creditors, any other party in interest, their attnys,
accountants, the UST or any other person employed by UST
o
Inadequate disclosure can disqualify professional from rep'ing BE, UCC, etc. - In re Universal
Building Products

Defective disclose not a minor issue; goes to heart of bkcy system

Attnys violated professional codes of conduct soliciting creditors for their proxies & then failed

to disclose the connections

Failure to disclose connections under BR 2014 is enough to warrant disqualification of counsel

from employment

Subsequent disclosures not enough to cure original deficiencies

In re Adelphia Communications Corp - as long as attny never acts adversely to interest of any individual debtor,

theres no problem w/one attny rep'ing multiple debtors

o
Facts - debtors filed for chpt 11& rep'd by same attny & share some mgmt pros; Creditor group opposed
joint rep of debtors
o
Holding - affirm bkcy ct ruling on motions b/c debtors attnys have maintained lvl playing field & relief
requested by creditors would make matters worse for all debtors

Bkcy ct didnt abuse its discretion in finding that, given lack of meaningful alternatives & dire
consequences associated w/imperiling the plan & sale, a balancing test tilts in favor of continuing exclusivity
o
Rationale - Attnys could continue to provide info & attempt to facilitate settlement of
interdebtor/intercreditor disputes w/o publicly acting as an advocate for any debtor
Just b/c attny took actions creditors oppose doesnt mean attny favored parent debtors over

subsidiary debtors; bkcy ct found that attny never acted adversely to interest of any individual debtor

Presence of intercorp claims b/w debtors rep'd by same attny doesnt automatically
warrant disqualification of attny

b/c of costs of hiring extra attnys/professionals, cts take wait & see fact driven approach
to determine if other counsel is needed; if all debtors had to have their own counsel, itd burden BEs
w/unjustified & insurmountable costs
Who can bring motions/object 1109(b): a party in interest, include debtor, T, or creditor comm,
etc. may raise & may appear & be heard on any issue in a case under this chpt

Comm had standing under 1103(c)(5) &/or 1109(b) to sue on behalf of DIP/TIB Louisiana World Expo v. Fed Ins Co
o
Where TIB/DIP doesnt pursue CoA of BE, comm may assert CoA on behalf & in name of DIP
w/permission of bkcy ct
o
Refusal to bring claim was unjust b/c it impaired interests of BE & creditors
o
Since DIP has duties of TIB, it must collect prop of BE & is accountable for all prop received
11 USC 704(2), 1106(a)(1) - TIB/DIP has duty to maximize the value of BE

DIP/TIB has authority to bring action for dmgs on behalf of debtor corp against corp principles
for gross neg, mismgmt, or breach of fiduciary duty where such action couldve been asserted by debtor corp (or
SH in derivative action) prior to bkcy

Under 704(1), DIP required to pursue CoA if itd be beneficial to BE, but b/c of CoI on
part of officers/directors of corp, the DIP refused to bring CoA (basically wouldve been suing themselves)
o
Comm's CoA was prop of BE, so DIP was duty bound to assert CoA if doing so would maximize value of
BE
o
If DIP has CoI in bringing CoA owned by BE, allowing creditor comm to bring claim on DIPs behalf
often beneficial to BE
Less expensive & time consuming than getting TIB to bring claims against DIP insiders

Requirements for creditor comm to sue: (1) Claim is colorable; (2) DIP refused
unjustifiably to pursue claim; & (3) Comm got permission to sue from bkcy ct - LA World Expo
o
Creditors interests in chpt 11 not protected when DIP fails to collect prop of BE

AS & Adequate Protection

AS 362(a) - most immediate advantage of bkcy to debtor; stops collection efforts against debtor
Threat of AS acts as strong incentive for secured creditors to hold off foreclosure/repossession

Stay lifting is difficult, time consuming & expensive & unlikely to be accomplished in early days of chpt 11
Debtor knows stay litigation will be filed early on; ct must act on motion to lift AS w/in 30 days or its deemed to

be approved as to the requesting creditors collateral, 362(e)

When creditor moves to lift AS, burden on DIP to prove theres adequate protection - 362(g)
Scope of the AS
Comes into effect automatically and instantly upon filing of chpt 11 petition, 362(a), and applies to large number of people
who had no prior notice/opportunity to contest AS

Even actions taken in innocent violation of AS, w/o notice of bkcy filing, are void/voidable
Secured creditors cant foreclose on collateral until end of case or ct lifts the stay under 362(d)

AS gives everyone a chance to review assets/debts of debtor b/f reorg of biz; puts everyone on equal playing field, no rush
to take debtors assets
If debtor has arguable claim to an interest in prop, creditor has to stay action against that prop - Chestnut v. Brown

Facts - Cs wife bought prop & made payments for a while, but stopped
o
C filed for bkcy & sent notice to mortgagee of bkcy, but mortgagee foreclosed on Cs wifes prop anyways;
They were in community prop state
Holding - mortgagee violated AS by foreclosing on prop b/c it was arguable that C had interest in the prop

Rationale - Since it was a community prop state & prop mightve been bought w/community assets, it was
arguable that C had an interest in the prop even though Cs wife bought it in her name & filed all the paper work/made all the
payments
Determination of whether something is prop of the BE is a legal issue for the ct to determine

If theres any question at all about whether prop is prop of BE, should go to the judge to have him make a ruling
Whether its prop of BE is determined solely as a matter of state law

362(b) - exceptions to AS that are narrowly construed

P couldnt have unilaterally waived AS against interest of creditors - Farm Credit of Central FL v. Polk

Prepetition agreements providing for the lifting of the AS arent per se binding on the debtor
o
AS protects BE prop, provide temporary relief from creditors, & promote equality of distribution among
creditors
Rationale - cts that have held prepetition waivers of AS valid dealt w/single asset bkcy cases where there was

evidence of bad faith filing & no prospect for successful reorg; not the case here
o
Relief from AS MUST be authorized by bkcy ct
o
No other creditors were involved in prepetition agreement nor did bkcy ct approve agreement
In re Sky Group Intl - granting a creditor relief from AS jst b/c debtor elected to waive protection of AS ignores fact that AS
is designed to protect ALL creditors & treat them equally
Primary considerations for determining when non-debtor co-D may be granted stay under 105 - Seitles

(a) Irreparable harm and

o
Interference w/rehabilitative process; met when action against non-debtor co-D is inextricably
interwoven w/affairs of debtor that it would substantially hinder debtors reorg effort
(b) either (1) likelihood of success on merits or (2) sufficiently serious questions going to merits to make them a

fair ground for litigation & balance of hardships tipping toward party requesting prelim relief
Lifting the AS - 362(d)
11 USC 362(d) (362(a) imposes AS) - gives secured creditor the ability to remove or modify AS
Secured creditor filing motion w/bkcy ct to remove/modify AS so it can foreclose/take other action in regards to

the collateral

Two prongs of 362(d)

o
Can seek to lift AS for cause (cause not defined)
Often creditor alleges that its not adequately protected; can be as direct an argument that the

prop is not insured

Could be argument that value is decreasing b/c of physical harm/deterioration or mkt conditions;
should get compensation for decreasing value
o
Alternative means to lift the stay is to prove that there is no equity in the prop (debt greater than value of
prop, under collateralized) AND the prop is not necessary for an effective reorg

10

Just being under collateralized alone wouldnt be enough

Hard hurdle to overcome b/c assets often necessary for reorg

Adequate protection not an element of 362(d)(2) analysis

If you can prove debtor cant successfully reorg, can get AS lifted

Key to many stay lifting provisions is the valuation of the asset

In re Scotia Pacific Co - about single asset real estate debtor, which have special rules for lifting AS

Ct said b/c Scopac conducted substantial biz on its prop, it wasnt a SARE w/in meaning of 101(51B)
101(51B) - reqs for SARE

o
Debtor must have real prop constituting a single prop/project
o
Prop generates substantially all of GI of debtor

To be SARE, revenues received by owner must be passive in nature (ie receiving rent)
o
No substantial biz is conducted on prop other than biz of operating real prop & activities incidental
thereto
Merima - SCOTUS said bkcy ct had equitable power under sec 105 to prevent debtor from transferring from chpt 13 when
he was acting in bad faith, even though plain language of the statute gave debtor power to make transfer
In re Rogers Development Corp
Facts - R & B corps developing real estate together; took out 520k loan & 360k line of credit from H; went into

default on both & filed for chpt 11 (had completed the construction)
o
Owed H 548k at time of filing; interest accruing at 63k/yr; prop appraised at b/w 700k & 800k

Holding - debtor may provide adequate protection through an equity cushion as 361 is not an exclusive list
o
Valuation approximating FMV is the commercially reasonable standard required
o
H adequately protected by equity cushion even if prop is worth as little as 700 b/c their claim is only for
548k
o
362(d)(2) not available b/c ct cant say that its not feasible for debtor to reorg & prop is necessary for reog
Rationale - Maintaining status quo isnt the indubitable equivalent nor granting such other relief

o
Equity cushion can constitute adequate protection w/o more
Adequate Protection - 361
3 nonexclusive means of providing adequate protection: (1) periodic payments; (2) additional or replacement lien; (3) catch
all, allowing other means of adequate protection as will result in the realization by such entity of the indubitable equivalent of its
interest in prop
Equity cushion can, on its own, serve as adequate protection as indubitable equivalent (In re Rogers Development

Corp)
o
Problem when collateral depreciates at a rate higher than principal is being paid off; at some point therell
no longer be an equity cushion & creditor would no longer be adequately protected
United Savings v. Timbers of Inwood - Pivotal case about whats included w/in adequate protection
Facts - apt project being built; lender owed 4.3mil

o
In hearing, lender was trying to ask for adequate protection of collateral, bkcy judge determined value of
collateral didnt exceed 4.2mil

Value of collateral judicially determined to be less than amount of debt; under secured debt,
underwater debt
SCOTUS - undersecured creditor is not entitled to interest on collateral during the stay to assure adequate

protection under 11 USC 362(d)(1)

o
opportunity costs shouldnt be compensated under bkcy code
o
Undersecured creditor couldnt get interest payments for value of collateral for starting after 6 month
period b/f foreclosure could be completed

Bkcy judge judicially determined that value of prop was expected to increase during pendency of bkcy
o
Important determination w/regards to whether theres adequate protection & what protection creditor can
get
o
If value of prop is increasing, the undersecured creditor is not entitled to any additional protection
o
If value of prop had been judicially determined to be decreasing, then undersecured creditor would be
entitled to compensation for difference b/w present value as of date of petition & value at end of bkcy
Done to maintain undersecured creditors position throughout pendency of bkcy

If undersecured creditor cant be compensated at end of bkcy for decrease in value of asset during
bkcy, likely that the plan wont be confirmed
Payments while Chpt 11 is pending

11

Adequate protection challenges often look at how much debtor must pay creditor during bkcy case
If ct orders too high of a payment, it might be more than debtor can handle, making reorg impossible

Nature of AP - can be equity cushion, additional liens, cash payments, etc.

AP payments sometimes confused w/interest payments

Under BC, ALL creditors add prepetition interest to their claims based on the terms of their Ks - 502
Oversecured creditors are entitled to postpetition interest while case is ongoing, 506(b), but not

undersecured/unsecured creditors, 502, 506(b)

o
Oversecured can get postpetition interest to extent of equity cushion
o
Interest to oversecured creditor doesnt necessarily have to be paid in cash to creditor; bkcy ct can let
interest accrue, but creditor still entitled to include interest in his secured claim
o
TH New Orleans LP - if cash collateral payments reduce creditors claim so he becomes oversecured b/f
confirmation, valuation of collateral & claim should be flexible & not limited to single point in time

Party who thinks its entitled to 506(b) post petition interest must motion bkcy ct to make such
determination & bears burden of proving its entitled to post petition interest (ie its oversecured, extent of equity
cushion, & for how long its been oversecured)
If FSA thought it was entitled to postpetition interest, it had to make a motion & bear burden of

proof

Secured creditors right to post petition interest under 506(b) matures at point in time when claim
is oversecured

Accrued interest under 506(b) isnt paid until confirmation date or effective date of plan,
whichever is later
K interest rate often an appropriate rate that adequately compensates for risk & is a good

estimate as to appropriate discount rate

Present Value of Claim - when plan is confirmed, secured creditors are entitled to present value of their claim, unsecured
claims entitled to present value of what they wouldve gotten in chpt 7, 1129(a)(7)
Creditor must be no worse off than hed have been in chpt 7

Undersecured - get value of total collateral at time of filing + post confirmation interest (ie present value) on that
amount + payment for unsecured part of claim at rate unsecureds paid under the plan; no post petition interest
In re Oxford Mgmt - ct cant use 105 equitable powers to authorize payments of pre petition debts from post petition funds
w/o lifting AS or confirmation of plan

Bcky ct set up special scheme to pay pre petition debtors from post petition funds based on sec 105
Ct said sec 105 did not give bkcy ct roving equitable powers; 105 powers have to be exercised in manner

consistent w/BC, bkcy cts cant create substantive rights that are otherwise unavailable under applicable law
o
Need statutory powers to do anything under bkcy code; ct cant just rely on equitable powers from sec 105
Good Faith
for the most part, only secured can seek lifting of AS
Unsecureds best chance to get out of chpt 11 is to get case converted to chpt 7; argue bkcy was filed in bad faith
1112(b), can file motion to dismiss case for cause, ie bad faith filing of chpt 11 petition, if its in best interests of creditors &
the estate
1112(b)(4) - for cause can include bad faith filing

SLG Carbon - filing just to get away from litigation/force a settlement is not filing in good faith
o
Need more details to say that filing was in good faith; if corp is in good financial situation but filing just
to stop litigation, then thats bad faith filing
US is unusual in allowing solvent corps to file for bkcy

allowed b/c its difficult/expensive to prove insolvency & requires valuing assets/liabilities
Theres a benefit to filing early b/f problems get out of hand

Filing early preserves value for benefit of equity owners

In re SGL Carbon Corp

Facts - SGL investigated for price fixing w/potential liability of 240mil & filed for chpt 11
o
Antitrust Ps only ones not to paid in full under plan; would be barred from bringing claims against
SGL/affiliates based on CoAs against SGL
Holding - biz doesnt have to wait to file chpt 11 until after a massive tort judgment has been entered against it

o
Bkcy was filed in bad faith b/c SGLs petition lacked a valid reorg purpose; it is subject to dismissal
for cause under 1112(b)

Rationale - attenuated possibility that corp might have to file bkcy in future not enough to establish good faith

12

SGL had 124mil in assets over liabilities & no evidence it had difficulty in meeting its obligations as they
came due nor did it have trouble raising/borrowing money
o
No customers terminated their Ks w/SGL based on tort case
In re PPI Enterprises - Filing chpt 11 just to take advantage of rent cap in 502(b)(6) is not per se bad faith filing
Right to Setoff - 553
553(a) - Except as otherwise provided in 362 & 363, bkcy code doesnt affect right to setoff a debt arising b/f bkcy, except
to the extent that

Claim of creditor against debtor is disallowed

Claim was transferred by an entity other than the debtor to creditor

o
(1) After commencement of the case OR (2) after 90 days b/f the filing of the petition & while debtor was
insolvent

Debt owed to debtor by creditor was incurred by creditor

o
(1) After 90 days b/f filing; (2) while debtor was insolvent; AND (3) for the purposes of obtaining a right
of setoff against the debtor
BC recognizes right of any creditor to offset a debt it owes to the debtor against a debt owed to the creditor by the debtor,
subject to some qualifications/limitations; limits debtors access to its cash
Enables creditor to obtain, in effect, full payment of its claim up to amount of its debt to debtor
Especially important for banks; deposits w/bank (checking/savings account) basically debts owed by bank to

debtor
Not technically a security interest, although it has much the same effect & is treated as one for most purposes under BC
506(a) - creditor w/right to setoff is treated as secured for the amount of its setoff right

363(c) - account subject to setoff is treated as cash collateral & governed by rules for using cash collateral
362(a)(7) - creditor w/setoff right is subject to AS & may not exercise setoff w/o permission of ct

See Citizens Bank of MD v. Strumpf - temporary admin hold pending application to lift AS to exercise right to
setoff didnt violate AS
o
Still needed ct approval to setoff w/o violating AS
BC doesnt create right to setoff, merely enforced rights that exist under nonbkcy law

Nonbkcy law limits right to setoff against special purpose accounts (ie escrow account)
o
If biz in trouble, bank cant reach into any special purpose account to setoff debt owed by biz
Citizens Bank of MD v. Strumpf

Facts - debtor filed for chpt 13 & MD bank, which debtor had checking account w/, put admin hold on debtors
account b/c he was in default on prebkcy loan; setoff debt owed to bank by placing hold on debtors checking account
o
Bank refused to pay withdrawals that would reduce account balance below amount needed to pay back
bank
o
Bank filed motion for relief from AS & for setoff; debtor filed motion to hold bank in contempt & for
violation of AS
Holding - banks admin hold, refusing to pay withdrawals from checking account that would reduce balance

below amount needed to pay back bank, didnt violate 362(a) AS

Rationale - (1) banks action wasnt a setoff w/in meaning of 362(a)(7) b/c:
o
(a) bank didnt purport permanently to reduce the checking account balance by the loan amount
o
(b) requirement of such intent was implicit in the rule followed by a majority of j/ds addressing the
question & setoff hasnt occurred until theres
A decision to effectuate a setoff, some action accomplishing the setoff, recording of the setoff

o
(c) 542(b) & 553(a) generally allowed the imposition of a setoff right that a creditor possessed b/f filing

Even if state law were different, whether a setoff has occurred is a matter of fed law
o
(d) reference in 553(a) to 362 was most naturally read as allowing 362(a)(7)s restriction upon when an
actual setoff might be effected
o
(2) debtors contention that admin hold violated AS rested on false premise that admin hold had taken
something from debtor or exercised dominion over debtors prop
o
Ct wont read 362(a)(3), (6) as proscribing what 542(b) and 553(a) were plainly intended to allow;
temporary refusal of a creditor to pay a debt thats subject to setoff against a debt owed to debtor
o
just b/c youre exercising control doesnt mean youre exercising control for purposes of the AS
Bank not holding debtors money; bank account just represented a promise to pay the debtor by

the bank

Refusal to pay was neither a taking of possession of debtors prop nor exercising of
control over it; merely a refusal to perform its promise

13

Dont interpret 362(a) to proscribe what 542(b) & 553(a) are designed to allow; ie the temporary
refusal of a creditor to pay a debt that is subject ot setoff against a debt owed by the debtor

Cant setoff unless you go to ct & file motion & get approval from ct
Strumpf holding doesnt make sense b/c prop of BE expansive & doesnt matter where its located or who holds it
(11 USC 541)
o
Would lead banks to put admin freezes on accounts w/o calling it a setoff

Operating in Chpt 11
Who's Running the Show?

DIP retains control of biz (BE) and continues running it; often creditors & debtor focus on
operation of biz as central concern of ongoing chpt 11

Amt paid to creditors in chpt 11 depends in large part on success of biz in chpt 11

If disputes b/w debtor & creditors get serious, creditors can try to convert case to chpt 7
or appoint TIB to run biz
In re Sharon Steel Corp

Facts - SSC manufactures steel; of 2 furnaces, most efficient one was shut down
pending 18mil in repairs & the other was 3yrs overdue for relining & was in trouble of imminent shutdown
o
SSC filed for chpt 11; had 742mil in liabilities & 478mil in assets
o
UCC moved to appoint TIB b/c debtor losing 2mil/month when steel prices were rising & mgmt couldnt
precisely measure losses as it had no postpetition profit/loss statements

Mgmt also didnt renegotiate loan to more favorable interest rate which would save SSC 4mil/yr

Holding - b/c of mgmts mishandling of biz & potential CoIs, it was appropriate to
appoint TIB to run SSC

Rationale - appointment of TIB in chpt 11 the exception, not the rule

o
1104(a)(2) - creates flexible standard to appoint TIB when its for the interests of creditors, equity security
holders, & other interests of BE
o
Evidence of mismgmt
Paid 294mil to secureds & 9.8mil & 970k to execs when SSC lacked money to reline furnace &

had to borrow 30mil at 28-30% interest

Just b/f filing, paid 3.7mil to financial mgmt services biz, transferred yacht, plane & stock to
other parties & mgmt didnt try to undo any of these transfers

Appears that SSC mgmt engaged in systematic syphoning off of assets on eve of bkcy
Why creditors move to have TIB appointed

Sometimes creditors explicitly seek liquidation in chpt 11, which goes faster/smoother
when entrenched mgmt is ousted

Dealings b/w creditor & mgmt become source of debtors troubles

Bad acts by mgmt doesnt always lead to appointment of TIB if mgmt is essential to success of
biz

In re Rush - professional engineer had Ks w/gov; had engaged in suspicious trans b/f
bkcy
o
Gov & creditors opposed appointing trustee b/c engineer was vital to continued operation of biz
Why allow Chpt 11 Liquidation?

w/mgmt running liquidation in chpt 11, likely theyll get better prices for the assets & it
avoids chpt 7 trustee fees
2005 Amendments 1104(e) - say that UST shall move for appointment of TIB if there are
reasonable grounds to suspect that current mgmt participated in actual fraud, dishonesty, or crim conduct as they managed debtor
or made financial reports

1104(a)(3) - If theres reason to dismiss case, ct may replace DIP w/TIB if such a move
is in best interests of BE
o
Ct already had this power under gen trustee appointment provisions of 1104(a)(2)
Why let old mgmt run biz as DIP?

Often they know the most about the biz & have greatest incentive to succeed

If biz not in scandal w/old mgmt, appointing TIB unattractive to most cts but if biz is
going to be sold off dept by dept, unclear how important knowledge of biz is as a factor to keep DIP in charge
Appointment of examiner 1104(c) - middle option b/w allowing DIP to run biz & appointing TIB

Examiner investigates affairs of debtor to: (1) identify pre bkcy fraud & mismgmt; (2)
discover CoAs that should be brought by BE; (3) monitoring DIPs performance

14

Creditors like examiner b/c it allows experienced & knowledgeable mgmt to keep
running biz, but creditors will have someone keeping an eye on things
Cts have assumed they can appoint examiners to do wide range of things; assume that
they can define & limit examiners power pretty much as they choose
o
In re Gliatech - ct treated examiner like special counsel appointed for specific discrete job rather than to
do investigations & make recommendations like a TIB would

15

Cash Collateral

Biz need $ to keep operations going while long term plan of reorg is developed, but cong
worried about giving DIPs control over cash as its a volatile/easily transferred asset
Creditors whos loans are secured by inventory/accounts also worry about DIPs use of cash that
secures their loans
363(c)(1) - cash not subject to lien can be used in ordinary course of biz w/o much constraint
Cash Collateral 363 - Cash subject to a lien (often b/c its proceeds from sale of secured
inventory or collection of accounts, UCC Art 9) cant be used by DIP w/o permission of bkcy ct

363(a) - cash collateral means cash, negotiable instruments, documents of title,

securities, deposit accounts, or other cash equivalents whenever acquired in which the estate and an entity other than the estate
have an interest and includes the proceeds, products, offspring, rents, or profits of property and the fees, charges, accounts or
other payments for the use or occupancy of rooms and other public facilities in hotels, motels, or other lodging properties
subject to a security interest as provided in section 552(b) of this title, whether existing b/f or after the commencement of a case
under this title.
Sec 552(a) - secured parties cant have security interest in prop acquired after filing of bkcy; no
security interests in after acquired prop even if K says that such an interest would be granted

Exception is that secured parties would have an interest in the proceeds from the prop
they had a security interest in
Use of cash collateral - under 363, DIP cant use one dollar of a lenders cash collateral w/o one
of two things: 1) the lenders consent or 2) authority of bkcy ct

Bkcy judges, as required by bkcy code, safeguard cash & secured creditors interests in
cash very strenuously

Can be found in contempt of ct if debtor uses creditors cash collateral w/o creditors
consent or cts approval

Use of cash collateral is done most of the time by consent through agreed cash
collateral order
o
Has attached budget by line item saying how cash collateral will be used in coming months

If DIP doesnt follow line item budget from cash collateral order, creditors can object to use of
cash

DIP can use prop of BE in ordinary course of biz w/o ct approval, but rules for cash
collateral superimposed on this rule
o
Cash earned in ordinary course of biz after filing bkcy still cash collateral

Critical vendors paid under line item in cash collateral order & through critical vendor
order
Both in cash collateral & DIP financing, approval from ct comes in 2 steps (DIP financing in
11 USC 364, Bkcy R. P. 4001)

Preliminary hearing 1st; usually very quick, can be 1st or 2nd day
o
Ct should only approve use of cash or borrowing of money necessary to avoid any irreparable harm to
debtor

Allows use of cash/borrowing of money for expenses that are necessary

2nd hearing no sooner than 14 days after preliminary hearing; gives other creditors
chance to see if use of cash/terms of loan are satisfactory
Orders on cash collateral & DIP financing are critical to case

Orders can have clauses w/far reaching implications (eg debtor wont propose a plan of reorg that
is not approved by DIP lender)
DIPs might agree to such orders/terms b/c it might be only source of funding/cash to get through

bkcy

Often only source of funding is existing lender; if DIP has no cash & needs to make
payroll & continue to operate, DIP doesnt have a lot of leverage
In re Earth Lite
Facts - SB sought relief from AS & wanted to prevent EL from using its cash collateral; SB

prepetition creditor who had provided DIP financing secured by inventory; EL had stopped making payments under agreement

Holding - debtor must prove creditor is adequately protected w/o using crutch of 3rd party
guarantees

SB is more than adequately protected if debtor resumes Ktual monthly payments &
cures default

SB not entitled to injunction & EL can keep using cash collateral to operate biz

16

Rationale - whenever noncash collateral is liquidated (ie inventory sold) the proceeds are cash
collateral so long as theyre subject to the original lien; DIP has to provide adequate protection when using cash collateral

Debtor, b/f using cash collateral, cant rest on equity cushion alone; must offer more b/f
it can use cash collateral

Debtor should be making periodic payments to creditor for use of cash collateral;
debtor should be given opportunity to cure default from missed payment

17

o
o

o
o

Post Petition Financing (DIP Financing) - 364

Important for DIP to say to creditor, customers, suppliers that it has a source of financing to keep them
from running away from corp in chpt 11
Often, a big part of DIP loan is said to be earmarked for critical vendors & other ongoing corp expenses
as well as reorg costs

DIP loan in almost every case is secured by a senior lien & will have a term, the earlier of
confirmation or whatevers negotiated

When DIP loan is due, its due & has to be paid

When DIP loan matures, AS could be lifted to allow DIP lender to foreclose on prop
w/in 2 weeks of start of case:
DIP lender can secure all of the assets

DIP lender can get provisions in DIP order that require its approval of plan
DIP lender can get provisions favorable to DIP lender & unfavorable to unsecured creditors

DIP financing order its not reviewable on appeal unless the DIP financing order is stayed
DIP financing/cash collateral order would likely say its secured by pre petition & post petition asset
even though post petition assets generally not part of BE (unless theyre derived from a pre petition asset)
DIP lenders charge large interest rates; can price out risk of making loan
Not bad time to lend b/c all of DIP's conduct is being scrutinized by ct; Will get huge payoff

when debtor reorgs

Sec 364 - allows DIP to entice lender post bkcy

Can offer admin priority to lender under sec 507; get paid b/f unsecured debtors 364(b)

If thats not sufficient for lender can (364(c)): (1) give a lien on any unecumbered prop;
(2) Give priority admin claim; or (3) Give junior lien on secured prop

Possible to displace 1st lien on secured prop & take a superpriority lien on that prop
364(d)
Only if DIP cant get any other lending

Theres adequate protection for lien that was sr & is being made jr
364(d) & Adequate Protection - First South Savings Assn

Facts - FS pre petition creditor secured by unfinished hotel

Debtor wanted 2mil loan secured by a lien that was superior (super priority) over FS' existing
lien on building

Cant give super priority liens anywhere else in law except under bkcy code w/bkcy ct
approval
Can only give approval if existing lender is adequately protected

Need sufficient equity cushion in pre petition collateral to cover pre petition debt &
post petition DIP loan

Here, DIP lenders own expert said collateral would leave FS exposed by 1mil

Judges hesitant to impose super priority lien over pre petition lien if theyre not entirely
certain theres enough equity in collateral to cover both pre & post petition debts

5th Cir reversed super priority lien b/c there wasnt adequate protection/sufficient
equity in collateral

Debtor can offer adequate protection by offering to make cash payments or by offering
other collateral

dont have to just look at value of existing collateral to determine if theres adequate protection,
but thats the start point
Most important protection DIP can offer DIP lenders is security interest in assets
Prepetition security interests secured by after acquired prop cease to operate instant bkcy is

filed

552(a) - prepetition security interests dont attach to prop acquired by DIP after filing

Proceeds Argument/Tracing - Doesnt apply to cash collateral (ie new inventory

bought w/proceeds from selling prepetition inventory subject to security interest)
Creditor must be able to trace value in unbroken chain directly from prop in which it held

security interest to new prop

New prop created/bought by BE after filing doesnt automatically get secured by lien of creditor
w/after acquired prop clause; instead prop goes to BE & reps interests of all creditors
DIP can offer DIP financers security interest in unencumbered prepetition prop & new prop it acquires
post petition

18

In re Garland Corp

Facts - GC filed for bkcy & sought DIP financing & got 1.4mil in post petition loans that were
deemed priority costs of admin under 507(b) & had 1st encumbrance on all assets of debtor

UCC opposed further DIP financing of 500k

Holding - record supports finding that debtor urgently needed the money & it was

otherwise unavailable

Ct may allow use of unencumbered assets to secure DIP financing so long as it

complies w/364(c)(2)

Rationale - despite short term operating losses, bkcy ct didnt err in finding that debtor could be
successfully reorg'd

Hearing for 500k loan showed debtor had tried & failed to obtain unsecured credit

Needed money to keep operating; 1300 employees told to call ahead to see if plant
would be open
Essential raw materials only available on a cash on delivery basis & other trade creditors

wouldnt product needed materials w/o assurances of payment

No express statutory requirement that unsecureds be given adequate protection

364(c)(2) - no requirement for adequate protection in respect to credit obtained under this
provision
In re Hubbard Power & Light
Facts - DIP sought financing by providing super priority admin claim and a priming lien on

all of debtors assets & assignment of & first priority security interest in all revenue debtor receives to lender

needed funds to clean up fire so biz could resume operations

Debtor had no valuable prop except for raw land; investment of 300k-400k would
increase value of prop

Secured lenders/county w/lien on prop objected to DIP financing

Holding - since clean up which would improve value of land & is a condition precedent of loan,
county is adequately protected

Grant debtors motion to obtain sr priority financing under 364(d)

Rationale - county has little to no secured claim in land, any improvement to real prop by way

of clean up would improve county's position & provide adequate protection

Debtor cant get secured lien on unencumbered prop b/c all of its prop is encumbered
Cross Collateralization - undersecured prepetition creditor agrees to provide post petition financing in
exchange for security interest that covers post petition loan & undersecured portion of pre petition debts

Shapiro v. Saybrook Manufacturing

Facts - SMC owed MH 34mil prepetition that was only secured to 10mil; MH provided
DIP secured financing of 3mil & also received security for 24mil of previously undersecured loans

Holding - 364(e) only applies if challenged lien/priority was allowed under 364; cant
determine if appeal is moot b/f determining whether lien/priority was allowed
Cross collateralization isnt allowed by BC & shouldnt be allowed based on equitable

powers

its not authorized as a method of post petition financing under 364

its beyond the scope of bkcy cts inherent equity powers b/c its directly contrary to
fundamental priority scheme of BC

Rationale - 364(c), (d) - by their terms only apply to future, post petition, extensions of
credit; dont authorize granting liens to secure pre petition loans

Sec 105 equitable power isnt unlimited; 507 fixes priority of claims & expenses against BE

Creditors w/in given class are to be treated equally & bkcy cts cant create their own
rules of super priority w/in a single class; cross collateralization does exactly this
Rehab of debtor doesnt justify use of any means

11th Cir rejected use of cross collateralization; There isnt a bright line rule about cross
collateralization in other circuits
Saybrook doesnt stand for idea that DIP lender cant secure loan for more than its worth

Case does stand for that DIP lender cant enhance its position by making loan contingent
on DIP increasing collateral to secure pre-petition debt
Mootness - stay of bkcy ct order is required for certain orders (ie post petition financing) to be appealed

Moots the appeal of a DIP financing order; Saybrook crack in 364(e) in 11th Cir b/c it said cross
collateralization wasnt allowed under 364(e) (extreme exception to 364(e) rule)

19

If stay is imposed, itll be hard for biz to operate; if its not imposed, then itll be hard to undo the
order if appeal is granted

364(e) - designed to encourage post petition lenders by assuring them that their rights will not be
upset by an appeal of the order that gives them security or priority unless it is stayed

Helps prevent them form being stuck w/high risk loan

Party appealing financing order must apply for a stay of the order & that party often
required to post a bond

Absent a stay, the lender is protected in its security/priority even if app ct later decides the
financing order was ill advised/not allowed by BC

Often means that action of bkcy ct will never be subjected to an effective review
In re First South Savings - FSS showed likelihood of success on merits b/c its claim on BE

wasnt adequately protected; issued limited writ

Rationale - dont need to show probability of success on merits, just that youve got a
substantial case on the merits & balance of equities weighs in favor of granting the stay

absent a stay pending appeal the DIP financing would be allowed provided loan was made in
good faith & w/proper notice, thus thered be irreparable injury to FSS if stay isnt granted
To get mandamus relief, SCOTUS requires that moving party has no other adequate

means to attain the relief he seeks & must satisfy burden of showing that his right to writ is clear &
indisputable

Standard for mandamus: remedy is available only when theres clear & indisputable
abuse of discretion or usurpation of judicial power by trial ct

criteria to determine whether a stay pending appeal is appropriate (First South Savings):

whether movant has made a showing of likelihood of success

whether movant has made showing of irreparable injury if stay isnt granted

whether granting stay would substantially harm other parties

whether granting stay would serve public interest

Proper recourse for creditor opposed to use of DIP financing funds is to get an order staying

financing pending appeal - EDC Holding Co

Holding - where its evident from loan agreement itself that trans has an intended effect
that is improper under BC, the lender is not in good faith

Lender acting in good faith isnt protected by 364(e); its irrelevant what the improper purpose
is

Facts - debtor received DIP loan to pay wages (507(b)(3) priority claim) & UCC
objected to paying 77k in creditors attnys fees from loan

Rationale - bkcy ct order was never stayed under 364(e), thus if CMB was acting in
good faith when it lent 77k for attnys fees, its priority couldnt be affected by the validity of the order & issue of validity
is moot
Union attnys fees not entitled to priority & not entitled to be paid by BE prop; no allowance will

be made to creditors attny for proving his clients claim

Owner Financing - old equity holders can be a source of funds for debtor in chpt 11

In return for investment, they often want ownership of post bkcy biz
APR - bkcy code follows rule that generally, equity interest holders cant retain value unless all

creditors have been paid in full

New value exception - when equity holders provide new value that cant be obtained
elsewhere to finance reorg, bkcy ct may permit equity to retain ownership if its convinced that the bargain is fair &
creditors will benefit

B of A v. LaSalle - old equity holders cant just buy equity in biz as part of plan w/o giving others
a similar opportunity to bid
In small biz, where owner is basically the biz, creditors may accede to continued participation by

old equity as a practical matter

Financing Goods/Services - BC doesnt require suppliers to continue doing biz w/debtor after filing,
unless theres an enforceable executory K that debtor assumes

Normal supply Ks just series of orders, not a single ongoing K

Absent ongoing Ks, suppliers reluctant to extend further credit despite fact that
theyll have admin priority if they do - 503(b), 507(a)(1)
Rule in bkcy that unsecured prepetition creditors cant be paid except on pro rata basis

Substantive consolidation - Babcock v. Wilcox: having DIP financing w/multiple debtors doesnt
substantively consolidate the debtors bkcys even if theyre procedurally consolidated

20

21

Critical Vendors
o

Critical vendors get their pre petition debts paid (not necessarily all at once)
exception that says certain unsecured suppliers, whos goods/services are crucial to debtors biz,
can be paid on prepetition debts as a condition of providing future goods/services; typical critical vendor deal gets all of their
pre petition debt paid now & often is contingent of providing trade credit
Only debtor can ask for critical vendor status
If creditor sought critical vendor status, could be seen as trying to collect AS b/c trying to collect

pre petition debt through critical vendor status

Critical vendor status arises as a corollary of the AS

AS says no creditor/party can take action against debtor after petition has filed & debtor cannot
pay any obligation that it owed as of the date of its petition

Debtor precluded from paying debtors that it owed money b/f petition b/c bkcy wants
creditors to be paid through reorg as equally as possible under the rules
Dont want debtor favoring some creditors over others

Also gives debtor breathing space b/c he wont have to pay pre-petition debts
No matter AS, can pay vendors for post petition obligations (admin expense of BE); ie can pay
vendors for goods/services provided after the petition is filed

If vendor tries to condition delivery of post petition goods on payment of pre petition debts, it
would violate AS (unless approved as part of bkcy plan/by judge) b/c creditor trying to collect on pre petition debt; creditor
could be sanctioned for violating AS
If vendor tried to charge more for post petition goods than pre petition goods (assuming goods are
unique/special), if no K b/w parties agreeing on price from pre petition & higher price not going to offset pre petition debt, then the
creditor is likely not violating AS by charging more

Need linking conduct b/w post petition charges & pre petition debts; if pre petition debt not
being paid down, then vendor likely ok

if creditor uses part of higher price to reduce pre petition debt, it would violate AS
If debtor offers to pay for post petition goods & additionally would ask ct to get approval to pay pre
petition debt owed to vendor, wouldnt violate AS

If creditor made same offer, could be seen as trying to collect on pre petition debt & violation of
AS
2005 Amendments

546(c) - expanded trade creditors right of reclamation; if debtor receives goods while insolvent
& its w/in 45 days fo filing, seller may have right to get goods back if it makes timely written demand

506(c) - reclamation works against debtor but not against secured lender who claims the
newly delivered prop as inventory
Blanket security interest that covers inventory/after acquired prop will continue to trump

supplier, negating any right to reclaim goods

503(b)(9) - seller of goods received by debtor w/in 20 days b/f filing gets automatic admin
priority; right to 100% payment

Could cause admin chaos in figuring out who is entitled to what goods & may operate to
prejudice other creditors

Make debtor even more dependent on DIP loans as its soul source of financing b/c they have to
pay suppliers or lose inventory

Increase risk that fewer companies will be able to reorg

7th Cir - CV doctrine must be narrowly limited to vendors who were demonstrated to be critical,
otherwise theyd have to wait to get paid on prepetition debts like all other unsecureds
In re Kmart - CRITICAL VENDORS

Facts - Kmart filed for bkcy & on 1st day sought permission to pay immediately & in full pre
petition claims of all critical vendors; bkcy ct gave approval to pay 2300 CVs 300mil+ out of DIP financing

Other unsecured paid 10c/$ (mostly in stock of reorgd Kmart); one creditor objected to
CV order & dist ct reversed order after payments had been made

Holding - dont decide whether 363(b)(1) could be used to pay prepetition debts b/c CV order
here was unsound no matter how 363(b)(1) is read

Record wasnt proper to show preferential payment to CV creditors had a

prospect of benefit to other creditors

CV order cant stand & preferential payments can be recovered for benefit of all
creditors

22

o
o

o
o

Rationale - reversing preferential payments is done by bkcy ct all the time & if order to pay
CVs was invalid, then CVs have received preferences that Kmart is entitled to recoup for benefit of all creditors

Confirmation of plan doesnt stop admin of BE (except to extent plan so provides)

Equitable doctrines that prevent rescission of transfers from DIP dont apply here; no
detrimental reliance (ie in providing DIP financing)

Continuing to do biz w/debtor b/c of CV payments may or may not be reliance, but it is not
detrimental
Might be different if debtor becomes insolvent during bkcy; then CVs might be allowed to retain

payments under CV order to extent of post petition deficiencies

No const obligation to make every creditor a party to every contested matter in bkcy;
since all CV order said was Kmart could pay creditors it deemed CVs, only had to name Kmart as a party in this action

363(b)(1) - TIB/DIP after notice & hearing may use, sell, or lease, other than in
ordinary course of biz, prop of BE; paying CVs for pre petition debts is a use of prop other than in ordinary course
of biz

Priorities dont change unless a statute allows for it

Paying CVs based on idea that theyll stop doing biz w/debtor if not paid for pre
petition debts
Some will keep doing biz w/debtor b/c they need the biz or b/c theyre bound by long term Ks

makes it unnecessary to compensate them preferentially for prepetition debts

Dont need to pay pre petition debts to assure creditors that debtor will pay for
new obligations
Can require payment of cash or its equivalent for new deliveries

Use, Sale & Lease of BE Prop

Sales from Chapter 11 - more and more bizes are coming out of Chapter 11 in sales; outside the ordinary
course of biz
363(b) - TIB, after notice/hearing, can sell/use/lease BE prop, other than in ordinary course of biz

To use/sell/lease prop outside ordinary course of biz, file motion under 363 to all creditors who
have secured interest in the prop; once ct approves, can close the transaction

Two ends of the spectrum; a lot of room in between in determining what is and is not
ordinary course of biz.
the 363 sale is located in the early stage of the bkcy w/end goal of confirmation;

Stabilizing biz

Which contracts to reject

Claims are being filed

Negotiate w/the creditors.

Hard to do a 363 sale outside of the plan, especially when its essentially all of the debtors assets;
sale as a going concern b/f filing plan
Can file a plan that includes 363 sales of assets as part of the distribution of prop

try to figure out which assets to sell to get money in, which you will need at confirmation date

Build up as much a cash reserve so theres enough cash to pay the administrative claims,
making plan feasible

Sometimes selling the assets not b/c debtor wants to but b/c it needs cash to build up
the reserves.
Proposed Sale of all of the Assets in 363 subject to more ct scrutiny than sale of a few assets

363(c) - if biz of debtor is authorized to be operated, TIB may enter into trans, including sale/lease/use of
BE prop, in ordinary course of biz w/o notice/hearing

Cant use/sell lease cash collateral unless: gets consent of secured parites or gets ct approval, after
notice/hearing
363(k) - secured parties can credit bid on sales of their collateral up to extent of allowed secured claim
(value of prop)
Sales from Chapter 11 - more and more bizes are coming out of Chapter 11 in sales. Outside the
ordinary course of biz. General rule, a company is authorized to operate the ordinary course of biz w/o ct authority.
File motion under section 363 to all creditors and those who have secured interest in the

property. Only then could you close the transaction. Two ends of the spectrum. A lot of room in between in determining what is
and is not ordinary course of biz.
Ordinary Course - whether the BoD need to approve trans is one factor in deciding in whether it is in
the ordinary course

23

Horizontal and vertical view of the transaction - Take the view of the creditor's view secured
creditor; must tell them that you are going to use the secured collateral
Want a ct order b/c UCC/TIB (if there is one) could challenge the ordinary course of biz & have
ct say trans is invalid b/c there is no authority to do so

Make sure what authority you rely upon is good authority to determine ordinary course
of biz; look to what biz has done day in and day out.
Remember - Every time the debtor goes to ct for approval, the BE is paying the UCC's pro fees
as well as its own out of BE prop (admin priority claims paid in full)
In re Gulf Coast
Facts - debtor proposed selling essentially all BE prop in 363 sale outside ordinary course of biz

Unsecureds would get nothing from sale b/c secured credit bidding; no cash coming
into BE
Holding - ct rejected proposed sale b/c it would deprive creditors of protections that chpt 11
process provides
File chpt 11 & try to sell biz in 363 sale instead of filing chpt 7 to negotiate own deal/control
asset/get best price
363(k) - generally, in a 363 sale, secured creditor has the right to credit bid on collateral securing
claim to extent of allowed secured claim (ie collaterals value, 506)

363 sale allows the secured creditor to credit bid and there would be nothing left for the
other liens to attach to
Nothing would be coming into BE from sale except release from liability for the secured claim

The biz would be sold free and clear of all liens, claims and encumbrances, etc.
Rule - the AS is terminated when there is an agreed cash collateral order (as to the BE prop
subject to order)
Different parties concerns in 363 sales
UCC - was there adequate notice/marketing/fair value of sale

Were there competing bids/auction for sale; large auctions can help drive up price for
assets
Debtor - gets cash now; mkt for asset might be declining; buyer might impose time constraints &
revoke offer if its not accepted; sale could help biz continue by providing cash for payroll; it could cost more to get asset
through a plan

Couldve already tried to sell it to other people and failed

Secured creditor - get chance to credit bid up to allowed claim; faster than foreclosure; decrease
their risk by getting their claim out of bkcy & get the asset; can take the asset, sell it, and move on
363 sale Process
debtor files the 363 motion
creditors and equity committee could file objections and then there is a hearing b/f the judge and
the debtor has the burden to establish the reasons for the sale the biz justification

Why it should proceed in a 363 and not a plan or reorg

if debtor can establish that it is fair value and it has done some marketing, then they can
take into the account all of the factors in ruling on the motion for the bkcy.
Debtor file a motion to establish bid procedures in order to conduct an auction for the sale of
assets

the bidders will submit a memorandum and the bidders will have to provide a 5 percent
cash deposit and evidence of financial capabilities.

Will have to show the different procedures that they will use in making the 363 sale

It has become fairly standard practice for large cases; not of it is in the Code;

motion for bid procedures and motion to sell the second procedure
if the ct approves the bid procedures, it alleviates the motion to sell bc you have had the auction

and bid and established market value and there is not much more to say at the motion to sell hearing
Emergency 363 sales - example was immediate sale of GM no plan

GM has helped change the perception of the perception of the 363 salel If we can have
a 363 sale of GM in two weeks, then why not allow it in other cases.
Chapter 11 plan of liquidation - larger cases 363 sale and plan of liquidation and how to
distribute the proceeds and have voting on it and disclosure statements and how to wind up the case

Sometimes you sell the assets and then move to dismiss the case and move to convert
the case to Chapter 7; move to convert the case is an automatic process

24

Section 363 sale denied - move to foreclose; secured creditors can seek to foreclose if they can
get bkcy ct to lift AS

o
o

**RiverRoad --1129 context; says you cant confirm a plan through cramdown on secured creditor if it
denies them the right to credit bid in auction of collateral; just giving proceeds not enough to be indubitable equivalent in this situation
Where the plan is selling prop through cramdown plan on secured, has to allow for them to

credit bid in 7th cir

5th cir - allowed plan to be confirmed that crammed down w/o allowing credit bid when secured
got proceeds of sale b/c it was the indubitable equivalent of the secured claim (money from sale = indubitable equivalent)
while 363 is broad, certain claims will not be shed; claims for personal injury from a successor buyer,
environmental claims, make it difficult to shed these interest on these theories
Two ways to sell property of BE:
Sale - transfer of assets for value, including provisions for adequate protection.

Rule - when the sale short circuits the requirements of Chapter 11 by establishing the terms of
the plan secretly, when it includes unauthorized releases the transaction cannot be authorized under section 363(b).

It would alter creditors' rights, dispose of assets, and release claims and therefore
cannot dispose of the crown jewel asset that might restrict a future organization.
Section 363 - Must be justified by a Debtor

When an objector to a proposed transaction under 363(b) claims that it is being denied
certain protection bc approval is sought pursuant to 363(b) instead of part of a reorg plan, the objector must specify the
protection sought.

Factors that would invalidate a 363(a) sale

Will it dispose of all the claims against the debtor?

Will the transaction restrict the creditors' rights to vote?

The transaction did not dispose of virtually all of the Cajun's assets, leaving little
prospect or occasion for further reorg.
General Rule - A ct will authorize a sale of all or substantially all of the debtor's assets under the

Code and w/o a plan or disclosure statement when the debtor can show that not selling the assets would amount to a wasting of
those assets.

When the debtor can establish that the assets were fairly marketed, parties in interest
were provided notice and the sale is in the debtor's best interest.

Those who like procedure/efficiency see 363(b) sale as desirable bc they view them as
maximizing creditor recovery
Traditionalists - see the dangers in the developments which are driven by creditors in

possession.

Section 1123 - contents of plan has to say how secured interests, BE prop, etc are going to be
dealt w/under the plan
In re Trans World Airlines - 3d Cir.
Issue - whether or not the Ct can sell the assets or the property of the estate free and clear

of an interest in such property and b/c the claims against TWA were connected to or arise from the assets sold.

Holding - Interests are not limited to in rem interest suggests that they are interest in
property w/in the meaning of 363(f) in the sense that they arise form the property being sold

Or else the section would not deal w/situations in which there were things other than
the lien.
Rationale - 363(f) - interest in property - the trend seems to be toward a more expansive reading

of interest in property which encompasses other obligations that may flow from ownership of the property.

some cts have narrowly interpreted interest in proeprty to mean in rem interests such as
liens.

Any interest - is intended to refer to obligations that are connceted to or arise from
the property being sold.

Monetary Satisfaction - if the debtor had liquidated, then the claims at issue would
have received the distribution provided to other general unsecured creditors on account of their claims.
In the Matter of River Road Hotel Partners, LLC

It sets forth the criteria that a debtor's Chapter 11 reorg plan must satisfy to be confirmed
by a BC.
Rule - must be fair and equitable to have a cramdown plan, therefore sales propose selling

an encumbered asset free and clear of liens could be confirmed so long as the debtor's asset sales complies w/section
363(k).

25

Indubitable equivalent - what constitutes the indubitable equivalent depends on the

amount of the creditor's lein and the current value of the secured asset
Philadelphia Newspapers
Issue - what rights does a secured lender have when its collateral is sold pursuant to section
1123(a)(5)(d).
Cramdown 1129(b) - provides circumstances under which reorg plan can be confirmed over the
objection of secured creditors

process referred to as a cramdown bc the secured claims are reduced to the present
value of the collateral
While the remainder of the debt becomes unsecured, forcing the secured creditor to accept less
than the full value of its claim and thereby allowing the plan to be crammed down.

Transfer of assets w/the liens intact and deferred cash payments equal to the present
value of the lender's secured interest in the collateral;

Sale of the collateral that secured a lender free and clear of liens so long as the lender
has the opportunity to credit bid at the sale;

Indubitable equivalent of its claim.

Plan didnt trigger a duty to fully mkt the co under 363 - PWS Holdings

26

Avoidance Powers
Reshaping the Estate
o
o

o
o

Avoidance powers of TIB important in liquidation b/c they allow TIB to undo pre bkcy trans b/w debtor
& certain creditors for the benefit of all unsecured creditors
In chpt 11, avoiding powers give TIB/DIP greater leverage w/secured creditors in negotiating

Creditor may face loss of its security interest or an order requiring it to pay back amounts it
received from the debtor pre bkcy if DIP/TIB is successful in bringing an avoidance action
For chpt 11 avoidance powers, important distinction b/c pre bkcy debtor & DIP
DIP not debtor who filed chpt 11; DIP looking out for interests of all creditors & other

interested parties (ie employees, community, etc)

Rights of DIP not just same rights of old debtor but also collective rights of the creditors to
preserve the biz's assets

DIP may avoid transaction that old debtor would never have been allowed to challenge

DIP will challenge any secured creditors demand for better treatment than the
unsecured creditors until challenged creditor establishes that the security interest it claims isnt vulnerable to avoiding
powers of DIP
Strong Arm Clause - 11 USC 544(a)
Allows TIB/DIP to remove secured interests that hadnt been properly perfected/filed at time of bkcy
filing; makes them unsecured debtors & brings more money/assets into BE
Allows TIB/DIP to remove secured interests that hadnt been properly perfected/filed at time of bkcy
filing
Makes them unsecured debtors & brings more money/assets into BE

544(a): The trustee shall have, as of the commencement of the case, & w/o regard to any knowledge of
the trustee or any creditor, the rights & powers of, or may avoid any transfer of prop of the debtor or any obligation incurred by debtor
that is voidable by
A creditor that extends credit to the debtor at the time of the commencement of the case, & that
obtains, at such time & w/respect to such credit, a judicial lien on all prop on which a creditor on a simple K couldve obtained
such a judicial lien, whether or not such a creditor exists

Makes TIB/DIP a judicial lien holder on all BE prop to which a judicial lien could
apply, whether or not a creditor has an interest in the prop
A creditor that extends credit to the debtor at the time of the commencement of the case, &

obtains, at such time & w/respect to such credit, an execution agreement against the debtor that is returned unsatisfied at such
time, whether or not such a creditor exists; or

A BFP of real prop, other than fixtures, from the debor against whom applicable law permits
such transfer to be perfected, that obtains the status of a BFP & has perfected such transfer at the time of the commencement of
the case, whether or not such a purchaser exists
544 compares TIB to all other creditors by giving TIB rights & powers as of date of bkcy filing of a
judicial lien creditor (544(a)(1)), an execution creditor (544(a)(2)), or, for real estate, a bona fide purchaser (BFP, 544(a)(3))

Strong arm provision puts TIB/DIP in position of lien creditor to put them in a position to beat
unperfected interests of secured creditors
UCC 9-317(a)(2)(B) dont have to be quite perfected to be a lien creditor

Secured debt that is unperfected will be good against debtor; a secured debt that is perfected would be
good against all other creditors
Cant go out & perfect security interest after filing b/c of AS - 362(a)

Trying to perfect security interest post filing would be seen as trying to take prop of BE
Purchase Money Security Interst (PMSI) - get financing to buy specific collateral; for a certain amount
of time, its automatically perfected
Have to actually perfect interest b/f that time period runs out

Difference b/w DIP & debtor - DIP looking out for interests of all unsecured creditors & other interested
parties
Strong arm clause gives TIB power to knock off unperfected interests

Under 544(a), debtor can get rid of loan security interest b/c it wasnt properly perfected so asset
can be used for benefit of BE & unsecured creditors
Under UCC 9-317(a)(2) - security interest is subordinate to rights of person that becomes a lien

creditor b/f interest is perfected

27

544(a)(3) applies only to real estate; gives TIB greater power than against personal prop interests (ie
security interests under Article 9)
Against holder of real prop interest, TIB has status of BFP of real prop; 544 makes TIB a BFP

w/o regard to any knowledge of TIB or creditor

seems to rebut constructive knowledge test some cts have applied

b/c BFP generally has greater rights under state law than mere lien creditor, TIBs power
to avoid real estate interests under strong arm clause is also greater

when mortgages not properly perfected, TIB would have status of a BFP & could avoid the
mortgages

Some cts have said that if TIB wouldve had notice of the mortgages, they cant become
a BFP & displace the mortgage; constructive knowledge of mortgage doesnt allow TIB to strong arm security interest
out
In re Bowling
Facts - B owned real estate; bought it when married but wife not named in deed;

B refinanced mortgage on land; executed mortgage & promissory note on land &
signed them

Notary wasnt present when B signed event though she certified she was there when he executed
the docs

B filed for chpt 7 & trustee filed complaint to avoid banks interests in land under
544/547
Holding - in the absence of bank presenting any evidence to contrary, trustee has met burden &

presented clear & convincing evidence that notary wasnt present when B signed docs & SMJ is granted

Bank not entitled to a replacement lien in the real estate pursuant to sec 550

Rationale - use state law to determine what evidence/standard of review is required in

establishing whether docs were executed properly

trustee must show by clear & convincing evidence that mortgage wasnt signed &
notarized as purported (ie enough evidence for trier of fact to have firm belief/conviction as to allegations sought to be
established)

Bank cant rest on pleadings alone, but must identify specific facts supported by
affidavits/depos/answers to interrogatories/admissions on file that show theres a genuine issue for trial
No per se rule in Ohio that Bs testimony alone is insufficient to overcome notary's certification

550 -where trustee has avoided a mortgage b/c of strong arm powers, mortgagee's interest is preserved &
becomes part of BE w/o need for trustee to resort to recovery process of 550(a)

Statutory provisions of 550(e) providing for replacement lien for the creditor arent triggered
for the benefit of the mortgagee
Mortgages & Strong Arm Provision - Bowling ct said TIB could use strong arm provision to set aside
mortgage
Ohio state leg changed requirements for recording a mortgage to prevent similar cases in future,

but bkcy ct said that only applied to cases that hadnt already been filed

Other cts said that b/c TIBs status is BFP, TIB is charged w/same limits as a BFP

Held that purchaser who saw the defective mortgage would have notice of the mortgage
& couldnt attain BFP status in the purchase
TIB/DIP would be similarly charged & notice would prevent TIB/BIP from setting aside a

defective mortgage

In some states, defective filing of a mortgage doesnt put a buyer on notice

Some cts say that BFP status is granted by fed law in 544(a)(3), which begins by saying that the

provisions apply w/o regard to the knowledge of the trustee or any creditor
Other Prop - When dispute is over personal prop, not real prop, TIB/BIP has lien creditor status 544(a)(1), (2)

UCC Art 9 has reduced power of lien creditor to avoid unperfected security interests by denying
lien creditor priority that they give to other secured parties & buyers

Only secured parties & parties are protected against misinfo of certain types in a filed
financing statement while unsecured creditors represented by TIB/DIP are bound by defective & misleading filing even
if they actually relied on it - UCC 9-338
Fed Tax Liens - Repayment of taxes & discharge of tax debt are controlled by bkcy code through 507
(priority claims) & 523 (discharge)
Apply to all state & fed taxes owed, whether tax claim is secured or unsecured

Tax lien provisions largely adopt priority schemes set forth in state & fed law

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Fed tax lien arises when an assessment is made & attaches to all of the tax payers prop & rights
to prop

Until lien is filed, its treated like an unfiled security interest

Good against debtor but not good against most other interested parties, including TIB/DIP

b/f lien is filed, strong arm provisions allow TIB to exercise rights of a judgment lien creditor or
BFP of real estate on date of filing

Gives TIB/DIP priority over unfiled tax lien

After tax lien is filed, TIB must recognize the lien in bkcy & treat gov as it does
other perfected secured parites

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11 USC 547 - Preferences

o

General Rules - DIP can undo certain trans b/w debtor & creditors that took place w/in 90 days b/f filing
Powers designed to allow TIB to review activities of debtor as it got close to filing & determine
whether some creditors received preferential treatment

If ct finds preferences have occurred, creditors arent allowed to preserve their improper
position in bkcy
547(b) - the trustee may avoid any transfer of an interest of the debtor in property-(1) to or for the benefit of a creditor;

(2) for or on account of an antecedent debt owed by the debtor b/f such transfer was made;
(3) made while the debtor was insolvent;

(4) made-
(A) on or w/in 90 days b/f the date of the filing of the petition; or

(B) between ninety days and one year b/f the date of the filing of the petition, if such
creditor at the time of such transfer was an insider; and
(5) that enables such creditor to receive more than such creditor would receive if-

(A) the case were a case under chapter 7 of this title;

(B) the transfer had not been made; and

(C) such creditor received payment of such debt to the extent provided by the
provisions of this title.
In re PYSZ

Facts - D got judgment lien of 43k that he recorded & got writ of attachment on debtors prop b/f
debtor filed for chpt 13

Debtor 1/2 owner of biz that was subject to lien

Issue - was debtor insolvent at time lien attached would D receive more w/judicial lien than he

would in chpt 7

Holding - debtors liabilities exceed its assets; debtor failed to rebut presumption that debtor was
insolvent at time of transfer

Lien enables D to receive more than he would w/o lien in chpt 7; its a voidable
preference
Rationale - insolvent = more debt than assets, excluding exempt prop

547(f) - rebuttable presumption that debtor is insolvent in 90 days b/f filing for
purposes of 547

Creditor bears burden of overcoming presumption

547(b)(5) - w/respect to unsecureds, as long as distribution in bkcy is less than 100%,

any payment on account to an unsecured during preference period will enable that creditor to receive more than he
wouldve gotten in chpt 7 if payment hadnt been made

As a matter of law, whenever a gen unsecured obtains, w/in preference period, a

judicial lien against debtor who cant repay in full his unsecured creditors, that creditor received a preference
By obtaining attachment, D converted otherwise unsecured claim into a secured one

11 USC 101(54) - transfer means

(A) the creation of a lien;

(B) the retention of title as a security interest;

(C) the foreclosure of a debtor's equity of redemption; or

(D) each mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing

of or parting with-
(i) property; or

(ii) an interest in property.

When does transfer of security interest occur - 547(e)
Transfer from one creditor to another of a security interest in debtors prop wouldnt be avoidable b/c it
wouldnt be a transfer from debtor of an interest in his prop
Chase Manhattan Mortgage Corp v. Shapiro

Facts - 6 months b/f filing, debtor refinanced residential mortgage w/Chase; Chases mortgage
was recorded 77 days b/f filing & 72 days after Chase had distributed funds to debtor
Holding - Chase isnt a new creditor & earmarking doctrine doesnt protect late perfecting

refinancer from preference exposure; b/c recording took place outside of 10 day grace period, Chase's security interest is a
voidable transfer

o
o
o

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Rationale - 547 - promotes equality of distributions among creditors & discourages secret liens
on debtors collateral that arent perfected until just b/f filing

Antecedent - debt is antecedent if its incurred b/f transfer in question

Lenders who advance loan proceeds b/f recording mortgage are undertaking a transfer of an

interest in the subject prop for purposes of 547 and such transfers are subjected to preferential transfer liability

547(e) - gives mortgage lenders grace period of 10 days to perfect security interest; as
long as mortgage is recorded w/in this time, mortgage debt wont be deemed antecedent

If perfection is more than 10 days after transfer takes effect, transfer occurs at time of perfection
& debt will be antecedent
547(e)(1)(A) - mortgage was perfected when BFP of prop from debtor against who applicable

law allows such transfer to be perfected cant acquire an interest thats superior to the interest of transferee

State law said perfection took place upon recording, which was outside 10 day grace
period; notice is irrelevant here

Late recording mortgagee who had it w/in its power to perfect b/f 10 day grace period
expired has no one but themselves to blame; cant get out of your own neg
Earmarking Doctrine - judicially created limitation on 547(b) (Shapiro)

Where borrowed funds have been specifically earmarked by lender for payment to a designated
creditor, theres held to be no transfer of prop of the debtor even if the funds pass through debtors hands in getting to selected
creditor
Even where lenders new earmarked funds are placed in debtors possession b/f payment to old

creditor, theyre not w/in debtors control

Elements:

Agreement b/w new creditor & debtor for payment of a specific antecedent debt

Agreement is performed according to its terms

Trans according to agreement doesnt result in diminution of debtors BE

Doesnt apply to transfer of lien interest

Chases perfection of lien wouldve resulted in diminution of BE b/c thered be less prop available
for unsecureds
Using voidable preference provision primary motivation for many debtors to file for chpt 11 &
encourages creditors to cooperate to develop informal settlements
Threat of involuntary bkcy gives creditors power to ensure that debtor is treating them fairly &

not making preference transfers to other creditors

Indirect preference 547(b)(2) - preferences apply to transfers to or for the benefit of a creditor

means that may be 2 or more persons potentially liable for preference transfer: transferee &
others who benefit indirectly from transfer
In re Denochick
Facts - Ks agreed to guarantee debt consolidation loan to debtor; debtor made 1700 in payments

in yr b/f filing that had indirect benefit of reducing guarantee obligation

TIB brought avoidance action to void preferential transfer & recover from Ks money
paid on loan

Holding - so long as transaction took place w/in 90 day period, bank received voidable
preference
Rationale - Ks were creditors even though their claim was derivative of the banks & was

contingent upon debtors default

Debtors payments to bank conferred a benefit upon Ks to detriment of other creditors

When fully secured creditor paid w/in 90 day period, no voidable preference as to the
bank

If senior is sued by TIB b/c the payment benefitted 2nd secured creditor w/jr position in same
collateral, theres a problem b/c payment benefitted another creditor

Transfer is recoverable from initial transferee, the bank

Voidable Preferences at State Law - Uniform Fraudulent Transfer Act 5(b) - provides that transfer is
fraudulent whenever its made in payment of antecedent debt by an insolvent debtor to an insider who had reasonable cause to know of
the insolvency
Insolvent debtors repayment of debt to insider can be set aside by other creditors w/o needing to

file involuntary bkcy

Highlights that in or out of bkcy, insiders shouldnt be paid ahead of other creditors

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Also extends to restrictions on insider payments to orgs that arent subject to involuntary bkcy,
like charities

o
o

UFTA restricts transfer only to insiders

UFTA distinguishes b/w

Creditors who are creditors at time of trans; have right to set aside transfer

Creditors who became creditors after transfer; have no right to set aside
UFTA requires insider who received transfer have reasonable cause to believe debtor was
insolvent; no similar provision in BC
SoL - 4yrs for REV cases & 1 yr for actual/intent cases; BC only reaches back 1 yr to review
insider transfers

Exceptions to Preferences - 547(c)

547(b) says debtors cant prefer certain creditors right b/f bkcy & that creditors who receive preferential
treatment can have it undone in bkcy
Voidable preference provisions create some disincentive for creditors to spend time/money to get

preferential payments/security interests from soon-to-be debtor if theyll simply be avoided if the biz cant survive outside bkcy

Keeps creditors from tearing apart ailing biz

If 547 had no exceptions, even trans that were beneficial to the troubled biz could be undone in bkcy
547(c) contains 9 exceptions to 547(b) voidable preferences; allows otherwise voidable trans to be saved
(c) The trustee may not avoid under this section a transfer-

Contemporaneous Exchange - (1) to the extent that such transfer was-

(A) intended by the debtor and the creditor to or for whose benefit such transfer was made to be
a contemporaneous exchange for new value given to the debtor; and
(B) in fact a substantially contemporaneous exchange;

Ordinary Course Payments - (2) to the extent that such transfer was in payment of a
debt incurred by the debtor in the ordinary course of biz or financial affairs of the debtor and the transferee, and such
transfer was-
(A) made in the ordinary course of biz or financial affairs of the debtor and the transferee; or
(B) made according to ordinary biz terms;

(3) that creates a security interest in property acquired by the debtor-

(A) to the extent such security interest secures new value that was-
(i) given at or after the signing of a security agreement that contains a description of
such property as collateral;

(ii) given by or on behalf of the secured party under such agreement;

(iii) given to enable the debtor to acquire such property; and

(iv) in fact used by the debtor to acquire such property; and

(B) that is perfected on or b/f 30 days after the debtor receives possession of such property;

(4) to or for the benefit of a creditor, to the extent that, after such transfer, such creditor
gave new value to or for the benefit of the debtor-
(A) not secured by an otherwise unavoidable security interest; and
(B) on account of which new value the debtor did not make an otherwise unavoidable transfer to

or for the benefit of such creditor;

(5) that creates a perfected security interest in inventory or a receivable or the proceeds
of either, except to the extent that the aggregate of all such transfers to the transferee caused a reduction, as of the date of
the filing of the petition and to the prejudice of other creditors holding unsecured claims, of any amount by which the
debt secured by such security interest exceeded the value of all security interests for such debt on the later of-
(A)(i) w/respect to a transfer to which subsection (b)(4)(A) of this section applies, 90 days b/f
the date of the filing of the petition; or

(ii) w/respect to a transfer to which subsection (b)(4)(B) of this section applies, one
year b/f the date of the filing of the petition; or
(B) the date on which new value was first given under the security agreement creating such

security interest;

(6) that is the fixing of a statutory lien that is not avoidable under section 545 of this
title;

(7) to the extent such transfer was a bona fide payment of a debt for a domestic support
obligation;

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(8) if, in a case filed by an individual debtor whose debts are primarily consumer debts,
the aggregate value of all property that constitutes or is affected by such transfer is less than $600; or

(9) if, in a case filed by a debtor whose debts are not primarily consumer debts, the
aggregate value of all property that constitutes or is affected by such transfer is less than $5,8501.
Contemporaneous Exchange - 547(c)(1)
Based on idea that seller or lender should be able to deal w/buyer/borrower w/o worrying about
whether the order in which trans took place could create a voidable preference (in sale, if goods delivered b/f payment by
debtor, then thered be a brief period where seller was a creditor)
Rare exception; if it was truly contemporaneous, then the transfer wouldnt have been on
account of an antecedent debt

Exception was designed to prevent payments by check from being preference

When goods/prop exchanged contemporaneously w/cash/prop of debtor, such trans are not
subject to avoidance if the debtor declare bkcy w/in 90 days
Elements of Contemporaneous Exchange

(1) exchange was intended by debtor & creditor to be a contemporaneous exchange

(2) exchange was for new value given to debtor

(3) in fact a substantially contemporaneous exchange occurred

New value - 547(a)(2) - money or money's worth in goods, services, or new credit, or release by
a transferee of property previously transferred to such transferee in a transaction that is neither void nor voidable by the debtor
or the trustee under any applicable law, including proceeds of such property, but does not include an obligation substituted for
an existing obligation
In re Shreves

Facts - Debtors took out loan to buy car & granted security interest; debtor refinanced
b/f interest was perfected

Refinancer recorded lien almost 4 months later, then debtor filed for bkcy & TIB moved to set
aside preference

Holding - perfection wasnt in fact contemporaneous w/transfer as required by 547(c)

(1)(B); cant use 547(c) to defend avoidance action; ct sets aside transfer of security interest

Rationale - Fink - transfer of security interest is perfected under 547(c)(3) on the date
the necessary state law perfection steps are taken
creditor may invoke enabling loan exception only by satisfying the state law perfection

requirements w/in 10 day grace period

Enabling loan exception - only available to PMSI trans; not available here
BC code requires trans to be contemporaneous; doesnt matter that parties intended to execute

contemporaneous exchange

Earmarking doctrine - applies in refinancing situations to determine whether payment is

transfer of debtors interest in prop to pay the debt he owed to 1st creditor

transfer at issue was not transfer of funds to initial creditor but transfer that occurred
when new creditor perfected lien more than 10 days later

Although debtors transfer to new lender arose in context of refinancing, it didnt

involve the payment of funds by a 3rd party or payment of borrowed funds at all

Earmarking doctrine has no logical relevance to such a trans

Ordinary Course Exceptions - 547(c)(2)
Balances competing concerns:

(1) need to discourage preferences in favor of certain creditors pre-bkcy

(2) need to encourage pre-bcky trans that are essential to keep biz alive
Allows some trans to stand notwithstanding the fact that they permitted some unsecured
creditors to be paid in full
Payment allowed to stand if:

(1) transfer was in payment of a debt incurred in ordinary course of biz AND

(a) transfer was made in ordinary course of biz OR

(b) transfer was made according to ordinary biz terms

In re Stewart

Facts - S bought livestock from BC at cattle auction; paid w/personal checks that
bounced
S weeks later then bought cashiers checks which he gave to BC to pay for cattle

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Cashiers checks prop of S & transfers made while S was insolvent & transfer made
w/in 90 days of S filing for bkcy

Issue - was the delivery of the cashiers checks w/in ordinary course exception

Was the payment w/cashiers checks a contemporaneous exchange for new value

Holding - when S paid w/cashiers check, he was paying to satisfy an antecedent debt &
it wasnt a contemporaneous exchange for new value
It was the in the ordinary course of biz for S to pay BC w/personal checks at time of sale & to

have those checks honored by the bank; paying w/cashiers check after earlier checks bounced wasnt w/in
ordinary course of biz

Payment w/cashiers checks 2 weeks after auction wasnt w/in ordinary biz terms of the cattle
auction industry
Payments made by debtor in cashiers checks can be avoided b/c they were preferential

transfers under 547(b) & 547(c) exceptions to preferences dont apply

Rationale - Payment by check is intended to be contemporaneous & if the check is

presented for payment in normal course of biz, under UCC 30 days (UCC 3-503(2)(a)), that will count as a transfer that
is in fact substantially contemporaneous

Debtors payment by personal check only a contemporaneous transfer if the check was
presented & paid w/in a reasonable time

Payment of a debt by means of check is equivalent to a cash payment unless the check
is dishonored
Payment is considered to be made when the check is delivered for purposes of

547(c)(1), (2)

Contemporaneous exchange defense cant involve bounced check

when checks bounce, it becomes a credit trans & creates an antecedent debt & any
subsequent payment, no matter how quickly made, would satisfy that antecedent debt
Evidence that transfer was made in ordinary course of biz

sufficient deviation from any factor may be sufficient for ct to say transfer wasnt in
ordinary course of biz

(1) length of time parties were engaged in trans at issue

(2) Whether the amount or form of tender differed from past practices

(3) whether the debtor or the creditor engaged in any unusual collection or payment activity
(4) whether the creditor took advantage of the debtors deteriorating financial condition

Timing of payments to creditor is of overriding importance

Look at trans in 12 months b/f 90 day preference period & 90 day preference period to see
determine what constitutes ordinary course of biz

Here, debtor only had 1 bounced check w/BC b/f 90 day preference period
Ordinary biz terms - look to whether the trans was ordinary pursuant to terms in the industry

Compare payment of debtor w/gen industry practice regarding time of payment

Arguments about appropriate treatment of late perfecting secured creditors

Its wrong to police delayed filing through preference powers

547(c)(1) should be used to protect security intersts that are perfected by tardy
financing statements, eliminating or reducing effects of 547(b) when creditor hasnt filed w/in statutory period
Delayed filings almost always accidents rather than intentional efforts to hide security interest &

parties almost always intended contemporaneous filing

Risk of abuse would be minimal b/c parties who delay filing to conceal security interest couldnt
use 547(c)(1) b/c they wouldnt intend a contemporaneous exchange; ie file promptly
Other creditors may have extended credit on basis of public record prior to late filing

Preference rules designed to protect creditors from carelessness of delayed filer

If 547(c)(1) created exception for late filing creditors, debtors might persuade parties to
delay filing while promising to tip them off if bkcy imminent so they can perfect

Timely filing requirement prevents fraud; multiple pledges of security in same prop cant happen
if lenders have to timely file their security interests or have them disappear in bkcy
Purchase Money Exception - 547(c)(3) - If security interest that secures repayment of loan was used to
purchase collateral (PMSI), then creditor has 30 days from delivery to the debtor to perfect the security interest
Most states only give PMSI 20 day grace period

PMSI may be in trouble if they can defeat bkcy preference action, but have jr interest b/c another
creditor w/after acquired security interest would be sr

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New Value Exception - 547(c)(4)

Only shelters preference payments that come b/f a particular extension of new value; only
applies on a payment by payment basis
Mechanics

Identify a preferential payment under 547(b)

See if avoidable amount of preference can be reduced by the amount of later advanced
new value that qualifies under 547(c)(4)

ie 1k payment but got 700 in new goods, thered be 700 new value exception & 300 voidable
preference

Test new value for qualification under 547(c)(4)(A), (B) by determining whether it was
accompanied by a payment that was itself unavoidable
Rests on premise that we shouldnt extract repayment of preference from helpful creditor who,

after preferential payment, extended new, unsecured credit to debtor & who will suffer in bkcy as an unsecured creditor to
extent of new credit

Comprehensive approach: start at day 90 b/f bkcy & identify each payment thats a preference
under 547(b)

After preference payments are located, work back from each grant of new value to
determine whether its subsequent to a given preference w/same creditor having advanced unsecured credit to debtor

Any advance of unsecured credit after preference will trigger 547(c)(4) but dollars of
each advance can only be counted once
Other exceptions
547(c)(6) - permits statutory liens that violate voidable preference provisions to survive if theyre

otherwise unavoidable under 545

Effectively says statutory liens dealt w/in 545, notwithstanding 547(b)

547(c)(7) - alimony & support payments not recoverable as voidable preference trans (only
applies in consumer bkcy)
547(c)(8), (9) - permit creditors to keep value transferred to them preferentially if its less than

600 in consumer bkcy & 5k in biz bkcy

Sums too small to justify expense of litigation

Central VA Community College v. Katz - 11thA doesnt bar suit against state to void preference
trance under 547
Setoff Preferences 553(b) - empowers TIB to recover from offsetting creditor amt by which creditors
setoff position improved during 90 days b/f bkcy
Avoidance power applies only if creditor offsets b/f bkcy; creditor who waits to exercise setoff

right until after filing, w/permission of ct, isnt required to surrender any improvement in set off position obtained during 90 day
period

In re Wild Bills Inc

Facts - WB took out loans from UT; 90 days b/f bkcy, had account balance of 211k & 2
days later had 130k deposited
WB owed 1.433mil; declared WB in default & said it was exercising right to setoff

Holding - TIB cant recover amts setoff by UT

Rationale - deficiency 90 days b/f bkcy 1.083mil & 88 days b/f bkcy when UT
exercised setoff was 1.094mil; UT didnt improve its position

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o
o

o
o

Executory K/Unexpired Leases - Sec 365

Econ Decision - Ongoing Ks central concern of TIB/DIP; essential to review pending Ks

BC gives DIP/TIB options for dealing w/executory ks/unexpired leases in 365

The statute - 541(a) brings all prop of debtor into BE & 365 deals w/rules for
rejecting/assuming/assigning
365 effectively determine what claims can be brought against BE for breach of K & rights of

estate to enforce a K & to realize its econ value through performance or by assigning K

365 doesnt state that K cant be assumed if it terminated under non bkcy law

Party in K w/debtor often argues K terminated b/f filing

Favors debtor & other creditors in rejection context

365(g) w/502(g) say that the rejection dmgs for any K are calculated as a pre bkcy
unsecured claim regardless of when rejection occurs

502(b)(6) caps landlords dmgs claims following rejection while landlord still has to mitigate
dmgs by releasing premises
And dmgs paid on rejected leases would also be paid as unsecured claim & thus likely for a

fraction of the value

Ability to reject leases & pay minimal dmgs is a major advantage to chpt 11 debtor who
has many retail locations that are losing money

365(c)(1) - forbids assumption of K that couldnt have been assigned by debtor under nonbcky
law (ie personal services K)

Language can be read to allow DIP to assume & perform, cts are split about its effect

In re Catapult Entertainment, Inc. - forbids assignment of patents on ground that fed

nonbkcy law forbids those assignments outside of bkcy
Therefore a patent license is unassumable even by same company that entered into the licenses,

acting as DIP

Other cts have criticized Catapult

By getting rid of burdensome Ks/leases, estate keeps more money & by keeping good Ks/leases, estate
can continue to benefit from those Ks/leases
Some Ks are executory (stuff left to do on the K); in bkcy, executory has stable meaning
Countryman test - a K is executory if there are fundamental obligations remaining to be

performed on both sides

Both debtor and creditor have obligations left to be performed

If one or the other has done everything, then the K isnt executory & cant be rejected/affirmed by
debtor
Cts generally follow this test, but sometimes find it hard to apply the test

EX - rent to own; if its an executory K, debtor can affirm (pay full amount) or reject
(give prop back)

If its a credit sale, debtor can ride through (keep making payments), reaffirm (renegotiate K
w/creditor) or redeem (make lump sum payment to cover remaining secured debt)
Distinction b/w pre-petition claim & administrative claims
Parties w/K w/debtor at time of petition will have admin claim from date of petition going

forward until debtor assumes or rejects K

Presumption that K provides a benefit of estate

Debtors should reject K sooner rather than later b/c dont want to incur admin claims

Admin claims get top priority among unsecured claims

For any plan thats confirmed, admin claims must be paid in full 100 cents on the dollar
If debtor rejects K/lease, then instead of paying priority admin claim, would have to pay dmgs

from rejecting K (gen unsecured)

Instead of having to pay 100c/$ for admin claim, BE would only pay pro rata share of
dmgs that gen unsecureds get under plan
Plan will dictate what default is; could say all Ks are rejected unless specifically assumed, or vice versa

Could also have lists of which Ks are assumed/rejected; could lead to lots of admin claims if Ks
arent rejected early
What happens as a practical matter
In big retail bkcy (Kmart), theyll have thousands of leases throughout country

Three categories

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Leases over market, usually entered into in last 5 yrs, never going to make money

w/these lease

Leases entered into long time ago, well under market, going to assume those leases b/c
going to continue to operate in those stores or assign leases to someone else to make money

In middle are leases that its unclear what to do w/them; might turn out well, stores
breaking even, might keep operating store, might assign store, but might not

What happens is debtor will, in early stages, will move to reject bad leases almost immediately;
dont want to pay admin claims for bad leases
Assumptions will usually be held on until plan or 210 day period is almost over; having to pay,

but no sense in binding yourself to the K until you have to

For middle bucket, hang on to those leases & as soon as you know if itll be good or bad lease,
making decisions as you go
As a matter of practice, many times K is modified & then assumed; Debtor makes a deal

w/K party & modifies K & then assumes the K

Cant modify terms unilaterally; judge doesnt have power to modify the K
365(a) - Except as provided in sections 765 and 766 of this title and in subsections (b), (c), and (d) of this
section, the trustee may assume or reject any executory contract or unexpired lease of the debtor

Ct has to approve trustee assume/reject executory K; ct defers to trustee's judgments (similar to

BJR)

Can ct attribute any legit biz purpose to trustee's decision

365(b) When you move to assume a K, have to assume it en toto; have to assume entire K, cant pick &
choose which sections you want to assume
Can have real disputes over cure amounts; can lead to trials over cure amounts

For Ks w/severable sections, those Ks are exception to rule about assuming K en toto

If you can prove that, even though all of clauses are in one K, they really are
separate agreements, then you can argue severability
Can assume clauses that constitute one agreement & not another; VERY RARE

Stewart Title - K for reproduction rights & leasing abstract plan; upon termination of lease, party
would have the reproduction rights

During bkcy, DT rejected lease but sold reproduction rights to ST, which ST started
using; DTNT sued St

Holding - the K was severable; it did not have to be assumed en toto

Rationale - no one test or rule of law can be used to determine if a K is divisible or

indivisible (about to apply a bunch of fuzzy law)

Johnson - 3 elements: intention of parties, subject matter of agreement, & conduct of the parties
Intention of parties - when parties K'd, they intended to make lease have two different pieces

Got there by saying 1st, lessor doesnt want to see divided K

Permitting divisibility would logically allow a premeditated intention of not

performing Ktual obligations
If they allow a K to be divided, your giving someone in the K world

the ability to go into a K premeditatedly thinking about breaching & not having to perform
after you got out of what you want out of K

Subject Matter - subject matter of K wasnt uniform & undifferentiated

To find K severable, ct usually going to find separate subject matter w/separate

consideration w/each part that just happened to be put in same K

THIS CASE IS EXCEPTION TO RULE THAT YOU HAVE TO

ASSUME/REJECT K EN TOTO
365(b)(1) - if debtor defaulted & wants to assume the K, the debtor has to:

Cure & different types of prop

all types of prop - if its possible to cure default, you cure or give adequate assurance of curing

Ie pay back rent or promise to pay back rent

If its a nonmonatary breach that is impossible to cure (ie buying insurance for time thats

already passed), you dont have to cure

For residential real prop & personal prop, if its impossible to cure, you dont have to do
anything for nonmonatary default

Do have to pay penalties/penalty rates to cure nonmonatary defaults

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Exception - if default of nonmonatary obligation arises from a failure to comply w/a

nonresidential real prop lease, default shall be cured by performance at and after time of assumption and paying
pecuniary losses resulting from such default

nonresidential real prop - if its impossible to cure, can cure by performing at or after
time of assumption & compensating for pecuniary losses due to default (ie buying insurance that lapsed)

(B) compensate, or provide adequate assurance that the trustee will promptly
compensate, for any actual pecuniary loss to other party resulting from such default; either debtor pays for breach or
trustee provides adequate assurance that it will pay for pecuniary loss

(C) - provides adequate assurance of future performance under such contract or lease
365(b)(2) - if youre defaulting just b/f you filed for bkcy, dont have to do the stuff in 365(b)(1)

365(b)(3) Shopping center leases - 2005 amendments made it a bit harder to assume shopping
center leases

Have to show adequate assurance of future performance & cure defaults

Additional requirements for assumption

Financial condition in an assignment has to be same as the debtor at the time he signed the lease

Have to show that assignee & any guarantors have the same financial condition as
debtor & his guarantors at time he signed the lease

Have to show that any % rate under lease wont decline substantially
Have to show you wont violate use restrictions in lease

Assumption or assignment of lease wont disrupt any tenant mix or balance in such shopping
center

Weingarten - bkcy ct approved assignment of shopping center lease b/c assignees were
willing to pay a lot of money to BE & worst that would happen to landlord is that theyd get what they had K'd for
Facts - Shopping center owner appealed assumption & assignment of lease by bankrupt tenant;

wanted lease back b/c it was old & had low rent

Argued that it violated 365(b)(3); bkcy ct rejected argument

Holding - 363(m) applies to assignment/assumption of lease; threw out Ws appeal

Even though this was a 2 step process of assumption/assignment, it still fell under
363(m)
Merits of Case - underlying argument against assignment was that under 365(b)(3), it violated

subsection (A), (C), and (D)

JLBA was a paper entity/newly formed, had no assets; service merchandise was a big
jewelry company at time it signed lease (had lots of assets); Main Argument

Witness testified that JLBA had no assets & was newly formed

Proposed assignment was in violation of use restriction in the lease

In shopping center was a JoAnne's (retailer selling fabric) & proposed lease

assignment was to Michael's (also a craft store)

JoAnne's testified that putting Micheals in would violate use restriction that it
was in same biz as JoAnne's

Assignment of lease would disrupt mix of shopping center

Emphasizes that bkcy judge is king; W was right on the law, but bkcy judge saw equities a bit

differently & affirmed assignment

365(c) - Ks that cant be assumed or assigned executory Ks that: (exceptions to gen rule that Ks can be
assigned)

applicable law excuses a party, other than the debtor, to such contract or lease from accepting
performance from or rendering performance to an entity other than the debtor or the debtor in possession, whether or not such
contract or lease prohibits or restricts assignment of rights or delegation of duties

Personal services Ks; something where debtors personal involvement is really

employment (ie employment Ks)
Can only be assumed or assigned if other party consents

Some decisions forbid assignment of patents on ground that fed nonbkcy law forbids
those assignments outside bkcy

Patent license unassumable even by same corp that entered into the license

Intellectual prop gets special protection under 365, but gen trade secrets not afforded
same protection
K to make a loan or other financial accommodation; cant force someone to give a loan to a

BE/corp in bkcy

38

Non-residential leases where lease terminated b/f bkcy filing

365(d)(2) - In a case under chapter 9, 11, 12, or 13 of this title, the trustee may assume or reject an
executory contract or unexpired lease of residential real property or of personal property of the debtor at any time b/f the
confirmation of a plan
the ct, on the request of any party to such contract or lease, may order the trustee to determine

w/in a specified period of time whether to assume or reject such contract or lease
365(d)(4) - No default rule about assumption/rejection; except for non-residential real estate leases

Unless lease is assumed w/in 120 days, then its rejected.

There can be an extension, but under 2005 amendments, extension can only be for an additional

90 days

210 day period is max time debtor has to assume/reject unless landlord consents to
extension

Debtors had been extending time to assume/reject indefinitely through plan of reorg

On big retail bkcy, have to work hard to get through all the leases & make
determinations w/in 7 months

Decision on whether to assume/reject lease is for the client to make, but attny has to
help client understand ramifications of assumption/rejection of lease
if you reject a lease, you have to promptly surrender the lease

Once motion to reject is filed, it often cuts off running of admin claims on lease even if
lease isnt surrendered until later

Almost impossible to oppose a motion to reject a lease b/c debtor saying lease is burdensome to
him
365(e) - cant terminate a K w/a debtor b/c of a term in the K that says debtors is in default b/c of
The insolvency/financial condition of the debtor at any time b/f closing of the case

The debtor filing for bkcy

the appointment of or taking possession by a trustee in a case under this title or a custodian b/f

such commencement
365(f) - if the debtor assumes a K/lease, it can also sell that K/lease by assignment

Can do this notwithstanding any provision in lease/K that prohibits/limits assignment of K/lease

(f)(2) - Still has to meet all requirements for assuming lease & provide adequate
assurance to Kting party that party receiving lease/K by assignment will continue to perform under K/lease
Other part of gen rule to which 365(c) is an exception

In re Jamesway Corp - provisions that limit assumption/assignment of executory K/leases are

unenforceable

Facts - J filed for chpt 11; had leases in shopping mall that it wanted to assign
Lease contained clause that said if the lease is assigned, then during 1st 20 yrs, the tenant would

pay 50% of profits received from assignee/sublessee

Lessor objected to assumption & assignment of lease

Rationale - 365 - DIP can assume or reject any executor K of the debtor & may assign
any unexpired lease of debtor if it assumes the lease
DIP must provide adequate assurance that assignee will perform on lease, whether or not theres

been a default (365(f)(2))

Cts dont have blank check to rewrite leases under 365(f)(1) & (f)(3) or other provision of BC
365 reflects cong policy of assisting debtor realize equity in all of its assets

Essence of 365(f)(1), (3) is that all Ktual provisions, not mere ones labeled anti-assignment
clauses, are subject to cts scrutiny regarding their anti-assignment effect
Practical effect of profit sharing clause in lease is that it limits debtors ability to realize intrinsic

value of the lease

No other cts ruled that the K provisions in question would be enforced if debtors had to pay
reasonable % of assignments proceeds; nothing in 365(f)(1) supports this position
o
365(f)(1) - allows assignment of an unexpired lease despite a clause in the lease prohibiting,
conditioning, or restricting assignment

Deals w/provisions that prohibit, restrict or condition assignment

Jamesway - interprets 365(f)(1) to invalidate provisions restricting, conditioning, or

prohibiting debtors right to assign lease
lease provisions conditioning a DIPs right to assignment upon payment of some portion of profit

realized upon such assignment are routinely invalidated under 365(f)(1)

39

365(f)(3) - prohibits enforcement of any clause creating a right to modify/terminate the K b/c its
being assumed or assigned, thereby indirectly barring an assignment by debtor; Deals w/ provisions that terminate/modify terms
of K/lease b/c its been assumed/assigned
365(g) - effect of rejecting K under 365(a) is a totally breach of the K
(1) - if you reject executory K, its considered that you breached immediately b/f filing bkcy

petition

Rejection is a breach of the K, but not a termination of the K; eliminates obligation of debtor to
perform under K going forward

Rejection is not free, as compensation for breach of K, debtor will have a claim for
rejection dmgs, which are treated as prepetition unsecured claims
365(h)(1)
(A) - If unexpired lease of real prop is rejected & debtor is lessor

(i) - if rejection amounts to breach of lease, then lessee can treat lease as being
terminated & get dmgs from lost of not being able to rent land (cost of getting similar land, land not fungible for BoB
dmgs)

(ii) - lessee can retain rights under lease that in or are appurtenant to the land to the
extent theyre enforceable under nonbkcy law

(B) - For rights that arent in or appurtenant to the land, get to set off dmgs against any rent you
owe, but have no claim for extra dmgs above amt of rent owed
365(k) - assignment relieves debtor & BE for any breach committed by assignee; debtor not liable for
breach of leases by assignee
Cuts off liability of debtor on the lease once he assigns the lease; tremendous benefit in bkcy

thats not available outside of it

Outside of bkcy, assignor still liable on lease if assignee defaulted on lease

363(m) - if theres an assumption/assignment order thats not stayed on appeal, opposition to order will be
mooted on appeal

Weingarten - failing to stay assumption/assignment order pending appeal makes the appeal moot
& itll be dismissed
In re Krystal Cadillac-Oldsmobile-GMC Truck, Inc.
Facts - KCOG had franchise agreement w/GMC; GMC said that KCOG was in breach & cut off

financing

GMC gave 60 days notice that it would terminate franchise agreement; extended it to
90 days

KCOG appealed to state bodies & while appeals were proceeding, filed for bkcy

Holding - franchise agreement was still in effect as of petition date b/c of state law

Franchise agreement was an asset of the BE & post petition adjudications of state
bodies are ineffective b/c they violated 362 AS & are not binding on the bkcy ct
Rationale - State law said that franchisees could appeal termination of franchise agreements &

while appeals are pending, the termination of franchise agreements arent effective; become effective upon final determination
of issue by state board
Rejection - BC favors debtor

502(g) & 365(g) work together to say that rejection dmgs for any K are calculated as pre bkcy
unsecured claim, regardless of when rejection occurs
502(b)(6) - caps landlords dmgs claim following rejection, landlord remains subject to duty to

mitigate by releasing ASAP

Ability to reject K & limit dmgs may be major advantage to chpt 11 debtor w/many retail
locations that are losing money
Claims Limitations for Rejection Dmgs
Special provision in code for rent; rejection dmgs limited to either 1 yrs rent or 15% of the

remaining time on the lease (not to exceed 3 yrs), whichever is greater (502(b)(6)(A))

Some debate whether the 15% is based on remaining years or money on the lease;
usually evens out though

Should be thought of as you get greater of 1 yr or 15% of remaining years on lease (not
to exceed 3 yrs)

If you had unpaid pre-petition rent, you would get that too; pre-petition rent not subject
to 1 yr/15% limitations

Rejection dmgs of employment K for employee limited to 1 yr (502(b)(7))

40

If claim is assumed, all future claims under lease are treated as admin claims & debtor has to
perform on lease

To assume lease, debtor has to show adequate assurance of future performance

If there are prepetition defaults, debtor has to cure defaults

If debtor cant cure defaults, he cant assume the lease

Debtors approaching bkcy need to be careful not to allow valuable Ks to terminate b/c if theyre
terminated b/f filing, theyre effectively dead & cant be revived

Should file earlier/make lease payment to avoid termination

Short of a lease being terminated, only thing a creditor can do is say debtor doesnt have ability

to pay

If debtor makes payments & has ability to pay going forward, its hard for creditor to
stop debtor from assuming lease

Special rules for assumption of shopping center leases

General rule is that if a debtor wants to assume a lease/K & has ability to perform, he will

be allowed to assume the K

Assume/reject K by filing motion & give notice to other party & creditors

If someone objects, theres a hearing

Most of the time, not too controversial

For creditors, if debtor assumes lease not that bad for him b/c debtor has to cure defaults & keep up
payments

Can be bad if debtor had below market lease that he assumes

Have to assume & assign b/w petition & effective date of plan
Practice is to assume/assign at same time, but nothing in statute that would preclude assuming K

& then a little later assigning it

Collective bargaining agreements - get special treatment, 11 USC sec 1113

If debtor wants to reject collective bargaining agreement, has to jump through lots of hoops in
1113
Debtor has to make offer, negotiate, provide adequate info to union; then debtor can only modify

collective bargaining agreements to extent necessary to reorganize

Power to reject collective bargaining agreement is an immense power

Threat of rejection still there & is a tool used by large corps to try to get back on equal
footing w/other competitors who have gone through bkcy process
365 Executory Ks include CBAs, debtor can assume or reject; debtor doesnt commit unfair

labor practice by unilaterally rejecting CBA - NLRB v. Bildisco

Facts - DIP requested permission from bkcy ct under 365(a) to reject its collective
bargaining agreement w.labor union

Bkcy ct granted permission; union filed unfair labor practice charge & NLRB found debtor
violated law by unilaterally changing terms of collective bargaining agreement & refusing to negotiate w/union

Holding - bkcy ct should permit rejection of such CBA Ks if the debtor can show the
agreement burdens BE & equities balance in favor of rejection
DIP doesnt commit an unfair labor practice when, after filing a bkcy petition but b/f ct approved

rejection of CB agreement, it unilaterally modifies or terminates one or more provisions of CB agreement

Rationale - nothing in 365(a) says that CBAs are different; also, 1167 expressly
exempts specific CBAs from 365, but not all, implying cong intended 365 to apply to CBAs generally

b/f acting on petition to modify/reject CBA, bkcy ct should be persuaded that reasonable efforts
to negotiate voluntary modification have been made & are not likely to succeed

If parties cant agree, decision on rejection might be necessary for reorg to proceed

Since policy of chpt 11 is to permit successful rehab of debtors, rejection shouldnt be

allowed w/o findign that policy would be served by allowed debtor to reject CBA
Determination of what would constitute successful rehab involves balancing of interests of

debtor, creditor, & employees; consider hardship faced by each party & qualitative differences b/w types of
hardship faced

Recovery on a claim arising from DIP rejecting executory CBA post petition can only be had
through admin of the claim in bkcy & not by a suit against DIP; NLRB is precluded from enforcing agreement by
filing unfair labor practice charge against DIP

From filing of bkcy until formal acceptance, CBA isnt an enforceable K w/in meaning
of NLR act

41

DIP need not comply w/NLR act prior to seeking bkcy ct permission to reject CBA

Any corresponding duty to bargain to impasse b/f seeking rejection is also not
applicable to DIP seeking rejection of CBA
Rejection of reg'd Ks - Mirant Corp
Facts - MC pub utility buying & selling electricity; bought electricity from PEPCO for 2.65bil

MC filed for chpt 11 & filed adversary proceeding against FERC & PEPCO to reject
certain Ks (B2B) for purchasing electricity & TRO against FERC & PEPCO to stop them from forcing MC to abide by
terms of B2B
Holding - power of bkcy ct to authorize rejection of Ks reg'd by FERC doesnt conflict
w/authority of FERC to reg rates

365(a) gives dist ct authority to rule on MCs motion to reject B2B so long as rejection
doesnt constitute a challenge to that agreements filed rate
FPA doesnt preempt MCs rejection of B2B b/c it would only have an indirect effect upon filed

rate

TRO & injunctions were broader than necessary to further provisions of 365
Rationale - FERC has exclusive authority to determine wholesale rates, but rejecting a K
under BC is a breach of the K

Outside bkcy context, FERC doesnt have exclusive j/d over the breach of a FERC
approved K
As long as breach of K isnt based on filed rate, dist ct can grant relief based on other breaches of

Rejecting K under 365(a) b/c of high filed rate doesnt convert rejection into prohibited
collateral attack on filed rate when electricity purchased under K isnt necessary to fulfill debtors supply obligations

Clear cong intended 365(a) to apply to wholesale electricity Ks subject to FERC

reg

42

o
o

o
o

Fraudulent Conveyance & Other State Avoidance Laws in Chpt 11 Bkcy

UFTA & common law hold that transfer of assets by insolvent debtor for less than reasonably fair
equivalent value is regarded as an injury to all creditors & that they may request ct to set aside transfer

544(b) - preserves those state law rights but gives them to TIB/DIP to set aside fraud transfers on
behalf of all creditors in bkcy
TIBs rights derivative; there MUST be an actual unsecured creditor who couldve brought

avoidance action under state fraud conveyance law; TIB steps into shoes of that creditor
Avoidance power under 544(b)(1) (trustee can use state law fraud transfer, UFTA, usually longer reach
backs) & 548 (fed fraud transfer provisions, can avoid security interests, previous payments, & obligations debtor took on)
Two ways to be a fraudulent conveyance

Actual intent to defraud creditors (ie hiding assets)

Constructive fraud - got less than REV in transfer & debtor either insolvent at time of transaction

or rendered insolvent b/c of transaction

Insolvent 101(32) - balance sheet approach, assets less than liabilities

548 - 2 yr reach back provision; dont need actual creditor for trustee to bring fraudulent transfer claim
544(b)(1) - 4 yr reach back provision; trustee can only bring a 544 claim if theres an actual creditor out
there who couldve brought the claim

If theres no creditor like that, then the trustee cant bring the claim
Dont need to actually identify the harmed creditor

11 USC 550 - Lets trustee recover prop transferred thats challenged by avoidance action; remedies for
fraud conveyances under 544 & 548

(a) Except as otherwise provided, to the extent that a transfer is avoided under section 544, 545,
547, 548, 549, 553(b), or 724(a), trustee may recover, for the benefit of BE, the prop transferred, or, if the ct so orders, the
value of such prop, from-
(1) the initial transferee or the entity for whose benefit transfer was made; or

(2) any immediate or mediate transferee

(b) The trustee may not recover under section1 (a)(2) of this section from-

(1) a transferee that takes for value, including satisfaction or securing of a present or
antecedent debt, in good faith, and w/o knowledge of the voidability of the transfer avoided; or

(2) any immediate or mediate good faith transferee of such transferee.

(c) If a transfer made between 90 days and one year b/f filing-
(1) is avoided under 547(b); and

(2) was made for the benefit of a creditor that was an insider at time of transfer;

the trustee may not recover under subsection (a) from a transferee that is not an
insider.
(d) The trustee is entitled to only a single satisfaction under subsection (a) of this section.

(e)(1) A good faith transferee from whom the trustee may recover under subsection (a) of this
section has a lien on the property recovered to secure the lesser of-
(A) the cost, to such transferee, of any improvement made after the transfer, less the
amount of any profit realized by or accruing to such transferee from such property; and

(B) any increase in the value of such property as a result of such improvement, of the
property transferred.

(2) In this subsection, improvement includes-(A) physical additions or changes to the property transferred;

(B) repairs to such property;

(C) payment of any tax on such property;

(D) payment of any debt secured by a lien on such property that is superior or equal to the rights
of the trustee; and
(E) preservation of such property.

(f) An action or proceeding under this section may not be commenced after the earlier of-
(1) one year after the avoidance of the transfer on account of which recovery under this
section is sought; or

(2) the time the case is closed or dismissed.

11 USC 548(c) - Except to the extent that a transfer or obligation voidable under this section is voidable
under section 544, 545, or 547 of this title, a transferee or obligee of such a transfer or obligation that:
takes for value and in good faith

has a lien on or may retain any interest transferred or

43

may enforce any obligation incurred to the extent that such transferee or obligee gave
value to the debtor in exchange for such transfer or obligation
Get lien on prop to extent that transferee gave prop w/value to transferor

Under 550, trustee cant get full value of prop transferred, but difference b/w what was
given up & what was received
Protects transferee for the value that they did give
Transfers Among Related Entities
UFTA 4, 5 & BC 548(a)(1) - Number of transfers fraudulent b/c they constitute a transfer when:
(1) debtors insolvent & (2) for consideration less than reasonably equivalent value (REV)

Transfer might fail REV req b/c even though plenty of value was given, it wasnt given
to debtor
In re Image Worldwide

Facts - IW guaranteed loans to IM, affiliate corp, & both owned by same person; only
IM received funds from loan

IWs TIB filed to avoid guarantees of IMs loans as fraud transfers

Holding - while IW got indirect benefit from trans, it didnt get REV
Indirect benefits to guarantor may be considered when deciding whether a corp receives

REV for a guarantee; dont believe that bkcy ct clearly erred when it found IW didnt get REV for its guarantees

Rationale - conveyance by corp for benefit of an affiliate isnt regarded as giving fair
consideration to the creditors of the conveying corp

Intercorp guarantee

Upstream - subsidiary guarantees debt of parent

Downstream - parent guarantees debt of subsidiary

Cross stream - corp guarantees debt of affiliate

Creditors of cross stream guarantor can lose out in trans b/c guaranteeing corp may not receive a

direct econ benefit from guarantee

Requiring direct flow of capital to cross guarantor to avoid finding of fraud transfer is
inhibitory to contemporary financing practices which recognize that cross guarantees are often needed b/c
of unequal abilities of interrelated corps to collateralize loans

Even where theres been no direct econ benefit to guarantor, cts looking for fraud trans willing to
look at whether guarantor received indirect benefits from guarantee if theres been an indirect benefit

Ct generally wont recognize indirect benefit unless its fairly concrete

Most straight forward indirect benefit is when guarantor receives from debtor some of
the consideration paid to it

Reasonably equivalent value can come from strengthening corp group as a whole;
guarantor corp benefits from synergy w/in corp group
Intangible benefits such as good will & increased ability to borrow cap

Indirect benefits exist when the trans of which guaranty is part may: safeguard an
important source of supply or an important customer for guarantor

Substantial indirect benefits may result from gen relationship b/w affiliates

Ability of smaller corp to use distribution system of larger affiliate also an indirect
benefit
In re Video Depot

Facts - VD bought cashiers check to pay its presidents gambling debt; TIB moved to
void transfer as fraudulent

Issue - whether casino paid w/cashiers check was the initial transferee of cashiers check

Holding - presidents control over VDs biz operations didnt, in itself, compel a finding
that he had dominion & control over funds transferred from VD to Hilton

Nothing in record to support finding president had dominion & control over funds after they
were disbursed by VD; transfer was a voidable fraudulent transfer b/c Hilton was the initial transferee

Rationale - 550(a) - once transfer is determined to be fraudulent under 548, TIB can
recover it from either: (1) initial transferee or party for whose benefit transfer was made or (2) any immediate/mediate
transferee of such initial transferee
Right of TIB to recover from initial transferee is absolute

550(b) - TIB cant recover from subsequent transferee if it accepted transfer: (1) for value, (2) in
good faith, & (3) w/o knowledge of transfers voidability

44

550 balances goals of protecting creditors from last min diminutions of BE while guarding
against waste if people either had to ask how transferors obtained prop or to accept risk that commercial deal
would be reversed for no reason they could perceive at the time

Does so by imposing on initial transferee burden to inquire & risk if transfer is

fraudulent b/c theyre in best position to monitor tran

Subsequent transferees usually dont know where assets came from & would be
ineffectual monitors if they did
Transferee - one who has dominion over money/asset, right to put money to ones own purposes

Principal/agent doesnt have dominion & control over funds unless he has legal
dominion & control

Right to put funds to ones own purpose

Mere power of a principal to direct the allocation of corp resources doesnt

amount to legal dominion & control

Principal may establish legal control & dominion by first directing transfer into his personal
account & then making payment from his personal account to creditor
VD bought cashiers check payable to Hilton; legal control & dominion never passed to VDs

president

Calling transfer a loan doesnt make it under presidents dominion & control to make it
unavoidable; as long as money was in VDs account, presidents right to it was circumscribed by his duties to the
corp & its creditors

Once funds disbursed, president had to use them to pay Hilton

In re Keith Eichert - transferee held on notice that owners purchase of designer clothes couldve
been of no value to corp

Value to corp was 0; dont look at value of goods, but value they provide to corp
In re Tousa - Subsidiary guaranteed loan for parent corp (upstream guarantee) & didnt get
anything & then filed for bkcy

Holding - transfers were for nothing, thus not for reasonably equivalent value; voided
guarantees & deemed it a fraudulent transfer
Subsidiaries didnt get any indirect benefits from loan

Rationale - to show fraudulent transfer, have to show: (1) subsidiaries insolvent at time
of transfer & (2) got less than reasonably equivalent value for transfer

Here, subsidiaries got nothing for their guarantees

Dist Ct - reversed bkcy ct & said there was reasonably equivalent value
When subsidiaries became guarantors of loan, they became beneficiaries of the money even

though it went directly to pay settlement

Bkcy ct also placed burden on the wrong party; trustee trying to avoid transfers shouldve had
burden to show that subsidiaries didnt get reasonably equivalent value

Two Holdings Not Reversed on Appeal

Creditors/corps try to get solvency letters from firms when theyre about to receive a big transfer

from that corp to disprove fraudulent transfer allegations

Banks here had gotten solvency letters, but accountants only paid 2mil fee if they found
the corp solvent (ct didnt like the arrangement); ct discounted solvency letter

Solvency can insulate from fraudulent transfer action

Savings clause in K - limits guarantors liability to the largest amount that guarantor can make
w/o making them insolvent

Argument that trans could never have made you insolvent & if youre insolvent now,
then youre not guaranteeing anything; done to defeat fraud transfer allegations
Bkcy ct said that savings clause is invalid; made other people worry that clauses that insulate

from fraud transfer actions to work around bkcy code would also be found invalid
Extraordinary Powers of TIB
Debtor-fraudulent conveyancer cant set aside fraudulent transfers but TIB/DIP acting for benefit
of all creditors could
Moore v. Bay - TIB could avoid trans completely even though resulting liability might be much
larger than the claim of creditor in whose stead the TIB sued

Trans avoided for benefit of all creditors, not just class that couldve brought avoidance
action under state law

45

Durrett v. Washington National Insurance - legally conducted, nonjudicial foreclosure sale that
had brought a low price was a transfer for less than REV

Created anomaly where debtor who had lost piece of prop in state foreclosure could
now, as DIP, reclaim that prop by paying off small price buyer had paid for prop
BFP v. Resolution Trust Corp - SCOTUS held that REV should be conclusively deemed to have

been given at any judicial foreclosure sale that was noncollusive & properly conducted under state law

Mkt value has no applicability in forced sale context

Aiding & Abetting - Liability to creditors of individual officers in debtors pre bkcy fraud well
established; difficulty when TIB sues on behalf of debtor corp

Cts routinely deny recovery to TIB for fraud by corp officers on various grounds, including idea
that CoA belongs to creditors, not the corp
Most common ground for denial is that corp officers were acting on behalf of corp & therefore

corp is held to be in equal fault w/officers

b/c fraud was designed, at least in short term, to benefit corp, DIP cant sue

46

Claims Against BE
o

Threshold Issues
pre or post petition claim
Debt or equity
Secured or unsecured
Need to have properly perfected secured claims on date of petition
If security interest not perfected at date of petition, debtor & trustee can avoid/undo unperfected
conveyances/deals
If security interest gets avoided, creditor goes from secured claim to general unsecured claim on
priority waterfall
In order to know what kind of plan is feasible in a case, need to know what claims there are outstanding

against a debtor

1.
o
o
o

1.
o
o
1.
o
o

Bkcy code has a waterfall priority amongst types of claims

Claims/Interest Priority
Allowed Secured claims - sec 506(a) - have secured claim to extent of value of collateral
Biggest priority for creditor w/valid, enforceable lien against prop of debtor
Amongst secured claims, there are varying priorities; can have multiple secured claims
to same collateral
Can have consensual liens (debtor granted lien to creditor) along w/non consensual
liens (tax liens, judgments, mechanics lien, etc.; liens created by state law)
Admin expense claims - sec 503(b)
Unsecured claim, for the most part post petition claims

503(b)(9) - goods provided to debtor w/in 20 days of petition date become pre petition debt &
given admin expense status
Most admin claims get paid when plan is confirmed
For chpt 11 plan to be confirmed, all allowed admin claims have to be paid in full & in
cash, unless parties agree to something else (1325)
Not always the case that admin claims get paid, some cases dont make it to plan
confirmation
Sometimes theres not enough cash/value in corp to pay admin claims in full; case would be

administratively dissolved

When that happens, case converted to chpt 7, but admin claims would be subordinate in
priority to admin claims from chpt 7 case
Critical vendors are type of admin claim
All claims of estate professionals (attnys, accountants, etc.) have to be approved by ct
Priority claims - sec 507
Specialized claims, for the most part taxes/wage/compensation claims (ie employees owed for prepetition wages)
Capped unsecured claims, but theyre ahead of other general unsecured claims
In re Scopac - Bkcy ct undervalued noteholders 507(b) admin priority claim by 29.7mil & erred by not
crediting their interest w/timber sales proceeds that were received during bkcy, on which they had a lien & priority
interest from cash collateral orders

test - once appeal is pending, its imperative that lower ct not exercise j/d over those issues,
although not themselves expressly on appeal, which so impact the appeal as to interfere w/or effectively
circumvent appeals process

b/c admin priority claims have to be paid in cash, in full to confirm reorg plan, parties
were on notice o legal priority of noteholders 507(b) claims & thus of its potential financial effect on
confirmation; 507(b) ruling was in no way dependent upon plan confirmation

Noteholders met burden to establish entitlement 507(b) priority claim through

testimony at hearing
General unsecured claims - sec 502
For the most part, the largest group of claims
Includes deficiency claims for secured lenders, lenders w/undersecured claims
Subordinated claims - sec 510
Sec 510 allows for the subordination of claims (doesnt say how/why you would subordinate claim)
Have to have bad misconduct on part of claimant, absent a Ktual agreement to subordinate, to have the
claim subordinated by the ct

47

Can have Ktually subordinated secured/unsecured claims; doesnt necessarily send claim down
to lvl 5, depends on terms of K
Bad boy/equitable subordination - claimant misconduct causes harm/injury to debtor; equitable

subordination
o
Can only subordinate claims to claims; cant subordinate the bad claimant below equity
o
Late claims (claims filed after deadline) usually treated on same lvl as subordinated claims

Pioneer Invs. Services Co. - SCOTUS - said late claim will be treated like a subordinated claim
unless the party can show excusable neglect
1.
Preferred equity interests - Perferred shareholders, most of the time equity holders get wiped out b/c unsecured &
secured creditors not paid in full
o
Absolute priority rule - when unsecured creditors are not paid in full & they dont elect to receive a
different treatment, equity holders get nothing
If the things above equity arent being paid in full, then equity holders dont get their equity back

Requires unsecured creditors get paid in full b/f equity securities are paid - Carrieri
1.
Equity interests - Common shareholders
o
These days, often equity holders have option to convert stock into debt
Whether its an equity interest or a claim is determined on date of filing - Carrieri

If theres a right to repayment, its a claim; if theres just an immature option, then its an
equity interest

Touchstone of any claim is that theres an enforceable obligation of the debtor, or

an enforceable right to payment from debtor

Language in rights doc doesnt include right to payment

Could only get corp to redeem stock to the extent it had legally

available funds

C only had right to demand repurchase & redemption rights, not same as right
to repayment

cts are clear that stock options, or the rights to exercise the stock option, are properly
classified as equity security interests, not claims
1.
Disallowed claims dont get any priority (ie if attny fees arent approved); dont get paid
o
Unless theres a showing case was futile from day 1, will be hard to say attny fees should be disallowed
b/c the plan didnt get confirmed
506(c) - Motion to Surcharge Collateral - Lets claimant get paid from lenders collateral (ie landscaper did work to
maintain the prop)

Only debtor/trustee can bring a 506(c) claim to get surcharge when work provided benefit to secured creditor,
Hartford Underwriters Ins. Co. (SCOTUS case called Henhouse)
o
Look at plain language of 506(c), which says only debtor/trustee can bring such a claim
Used to think any creditor who did the work could bring surcharge motion

o
Said that person who must bring the surcharge motion isnt the person who would have incentive to bring
the surcharge motion

Surcharge an admin claim, and if it gets granted it becomes a secured claim; carves into first lien
o
Providing goods/services to secured creditor that enhances value of collateral, so they need to get paid
from secured collateral
DIP liens often require surcharges to be subordinated, so that they dont carve out of the secured asset

TIB only proper party to bring action under 506(c) - Hartford Underwriters v. Union Planters Bank
o
Facts - debtor failed to make workers comp payments even though insurance was provided; bkcy failed
& insurer went after DIP lender to collect unpaid premiums from collateral (debtor had no assets that werent
encumbered)
o
Holding - admin claimant doesnt have independent right to use section to seek repayment of its claim
o
Rationale - 503(b) - actual, necessary costs & expenses of preserving the BE, including wages, salaries,
or commissions for post petition services are trated as admin expenses, which get a priority over prepetition unsecured
claims (507(a)(1), 726(a)(1), 1129(a)(9)(A))
Cost of insurance bought by HHI from HU is an admin expense, but since debtor had no

unencumbered assets there were no funds available to pay admin claims; cant give admin claims priority over
secured claims

506(c) - TIB may recover from collateral securing claim the reasonable, necessary costs &
expenses of preserving, or disposing of such prop to the extent of any benefit to holder of such claim

Trustee only party who can seek recovery under 506(c)

48

When statute lists who can invoke its provisions, only those parties may
act under the statute

TIB has unique role in bkcy & its plausible cong would give TIBs powers that
other parties in bkcy lacked

Broad phrasing of other sections (ie allowing PiI/entity to bring action) contrasts w/506(c) which
states only TIB can recover
Absolute priority rule - one of main purposes of Chpt 11

1129(b)(2)(B)(ii) - creditors' rights and claims take priority over equity interests
overarching theory behind it supports affirming the decisions to sustain the objections to the Cs

o
absolute priority rule provides that a dissenting class of unsecured creditors must be provided for in full
b/f any junior class can receive or retain any property under a reorg plan
Equity v. Debt - Carrieri v. Jobs.com - equity holders had warrants from merger that they tried to redeem from debtor;
debtor rejected redemption of warrants b/c it failed to comply w/reqs, filed chpt 11, & equity holders filed proof of claim for their
unfulfilled warrants
Holding - warrants to buy stock arent claims but equity interets

o
Dist ct properly held corp had insufficient legally available funds to pay to redeem Cs warrants/stock

Rationale - Correct interpretation of plain meaning of 101(16)(C) was that C-1/Warrants werent claims, but
equity securities
o
phrase other than a right to convert restricts only the word right and not the rest of the section
o
101(16)(C) should be read as follows: (16) equity security means-...(C) warrant or right (other than a
right to convert) to purchase, sell, or subscribe to a share, security, or interest of a kind specified in subparagraph (A) or
(B) of this paragraph
o
Cong did not intend the definition of equity security to include a security, such as a convertible
debenture, that is convertible into equity security, but has not been converted
Cong didnt intend to exclude anything else from equity security, like right to sell/redeem stock

or to demand repurchase of warrants, b/c it didnt explicitly list other restricted terms
o
right to demand repurchase of the Warrants falls w/in the definition of equity security under
101(16)(C) because stock warrants are simply options to purchase stock at a given price

A warrant is a security under 101(49)(A)(xv) and equity security includes a warrant or

right to purchase or sell a security
o
Warrants w/redemption provisions are equity interests until their expiration
o
As equity securities, warrants were subject to absolute priority rule at confirmation
Requires unsecured creditors get paid in full b/f equity securities are paid

Cs claims were properly terminated upon confirmation of the plan; cant use hindsight to say J.c
had enough money to pay & thus shouldve bought warrants

Cs ineligible to receive any distribution whatsoever, as long as it was deemed to hold

only equity securities and not claims, as was the case here
o
Cs argument that they hold claims independent of their equity securities lacks merit
o
Touchstone of any claim is that theres an enforceable obligation of the debtor, or an enforceable
right to payment from debtor
Language in rights doc doesnt include right to payment

Could only get corp to redeem stock to the extent it had legally available funds

C only had right to demand repurchase & redemption rights

o
cts are clear that stock options, or the rights to exercise the stock option, are properly classified as equity
security interests, not claims
Gov cant revoke licenses unless allowed under certain laws - FCC v. NextWave Personal Comm

Facts - debtors bought licenses from FCC; defaulted on the payments, so FCC took back the licenses & resold
them while debtor was in chpt 11
Holding - FCC was prohibited from violating 525(a) and thus couldnt cancel debtors licenses upon failure to

make timely payments

Rationale - 525(a) - gov unit may not revoke a licenses to a person that is a debtor under chpt 11 solely b/c such
debtor hasnt paid a debt thats dischargeable in chpt 11
o
Fact that FCC had a valid reg motive for cancellation was irrelevant
o
License obligations to FCC were debts dischargeable in bkcy
1141(d) - except as otherwise provided, the confirmation of a plan discharges the debtor from

any debt that arose b/f the date of such confirmation and the only debts it excepts are those in 523

49

727(b) - except for the nine kinds of debts saved from discharge by 523(a), a discharge in bkcy
discharges the debtor from all debts that arose b/f bkcy
o
Interpreting 525(a) to prohibit FCC cancellation of licenses didnt conflict w/license auction provisions
o
525(a) wasnt trumped by asserted 525(a) purposes to forbid discrim against those in bkcy & prohibit gov
action that would undercut fresh start that bkcy was premised on even if these purposes existed
Phones for All - employee fired by debtor 3 wks after debtor filed for chpt 11 not entitled to admin priority claim for
severance pay

Rationale - 507(a)(3)(A) - gen wage provision of BC, specifics & limits priority treatment for severance payments
o
507(a)(1) - provision according first priority status to admin claims doesnt specify & limit treatment of
severance pay
Omission of severance pay from admin priority claims mustve been deliberate by cong

o
To get admin priority status, severance claim mustve arisen from a trans w/DIP & must then confer
a benefit on BE
Crystal Oil Co - debtor succeeded corp which polluted land; gov investigated pollution & asked debtor if it owned the land,
but never said why they were asking
Debtor investigated records & couldnt find anything to indicate it had owned the land in question (didnt search

off site storage)

9 yrs after debtors bkcy (didnt list gov as a creditor) gov brought claim against debtor, debtor reopened bkcy to
enforce confirmation against gov
Holding - gov knew of environ claim based on release of hazardous substance b/f bkcy filing by CO; not clearly

erroneous for bkcy ct to find gov discovered waste oil (hazardous) & not crude oil (not hazardous) at site; b/c gov knew about
waste oil, it was enough to put them on notice of the claim
o
b/c gov couldve discovered that CO was successor to CORC by checking pub records & had some
indication from its investigation of this fact, the claim was a pre-petition claim b/c environ dmg arose b/f bkcy was filed
o
Bkcy ct wasnt clearly erroneous in holding that gov wasnt a reasonably ascertainable creditor of CO &
thus entitled to actual notice as opposed to published notice; Gov shouldnt be allowed to file 9 yr late claim

Rationale - claims arising b/f bkcy: reg environ claim arises when a potential claimant can tie the bkcy debtor to
a known release of a hazardous substance
o
Gov had some evidence that CO was successor to CORC, thus responsible party, even though they didnt
know for certainty
CO made no factual misrep that misled gov into thinking it wasnt CORCs successor; info was

in pub record
o
Debtor has to provide actual notice, not published notice, to all known creditors

Known = actually known & those reasonably ascertainable; only need to do careful search of
debtors own records

Environ claimants whose claims arent discoverable in debtors records/otherwise

apparent arent known creditors
o
For claim to be reasonably ascertainable, debtor must have in its possession some specific info that
reasonably suggests both the claim for which debtor may be liable & entity to whom itd be liable
o
While gov called CO, it didnt mention environ dmg at site, so no reason for CO to think there was a
claim against it

50

Claims of BE - CoAs Retained by BE

DIPs duty to protect prop of BE doesnt require overzealous pursuit of every claim, fraud conveyance or avoidance action;
DIP can refuse to pursue claims it finds wouldnt benefit BE - Adelphia
If its in best interest of BE, bkcy ct can allow creditors to bring claims on behalf of BE

Disclosure statement supposed to provide creditor w/all relative info

Supposed to contain sufficient info so that creditor can make reasonably informed decision about whether or not it

wants to vote to confirm plan

If theres going to be post confirmation litigation (often only thing unsecured creditor gets is proceeds from post
confirmation litigation), disclosure statement is supposed to say the types of litigation claims that would pay unsecured creditors
Want to retain & preserve those claims b/c unless theres some recovery on those claims, unsecured creditors arent

going to get anything

Causes of Action in Trust - Plan will treat creditors as different classes w/different treatment (amount paid & period for
payment)
DIP can put causes of action, owned on date of filing (& possibly new CoAs during pendency of bkcy) into a trust,

the prosecution of which & recovery from can pay for unsecured creditors
o
Trustee, standing in shoes of debtor, will prosecute/settle CoAs at his discretion so money is put into trust
to distribute to unsecured creditors

Often used when reorg fails & need income to pay unsecured creditors
b/f Stern v. Marshall, in whatever order/plan created the trust, the CoAs brought by litigation trustee would be

heard in bkcy ct; validity of broad mandates in question after Stern v. Marshall

Have to delineate what CoAs will be brought; in 5th cir have to be specific & unequivocal about CoAs to
preserve them for use by the trust
o
Specific & unequivocal info about CoAs for use by litigation trustee would be included in reorg plan &/or
disclosure statement (best to put it in both)
Plan should have section listing CoAs that are being preserved; can refer to plan exhibit X or

disclosure statement exhibit Y

EG - plan says CoA being reserved to sue D in bkcy ct for 100k

o
After plan confirmation, litigation trustee brings suit for fraud & DTPA for 100k
o
Defenses
Does bkcy ct have SMJ/D & const authority

If P doesnt have standing, thered be no SMJ/D

Suit wouldnt be for benefit of BE, unless plan kept BE alive after confirmation
Argue that plan/disclosure statement werent clear & unequivocal b/c didnt mention D would be

sued for DTPA violations & fraud even though D was listed by name & of the amount of the claim

If plan/disclosure statement specified D & some CoAs & facts, then brought additional CoAs,
might not be clear & unequivocal enough for the additional CoAs

Purpose of disclosure statement is to provide info to creditors so they can know what
theyre voting on & how theyll get paid; not supposed to give notice to putative Ds
Specific & Unequivocal - Plan has to specifically & unequivocally retain CoAs in plan/DS - In re United Operating

blanket reservations of any & all claims in plan/DS not sufficient to successfully reserve CoAs post confirmation
Rationale - upon confirmation, BE ceased to exist & D lost powers of DIP; lost authority to pursue claims as

though it were a trustee

o
1123(b)(3)(B) - Reorgd debtor can preserve its standing to bring claim belonging to debtor/BE post
confirmation only if plan expressly provides for claims retention & enforcement by debtor

After confirmation, ability of debtor to enforce claim once held by BE is ltd to that which has
been retained in the plan
Retention must be specific & unequivocal

o
w/o effective reservation of claim in plan, debtor has no standing to bring claim that BE owned b/f it was
dissolved
o
Big problem was that there was no longer a BE after the confirmation; just had reorgd debtor

UCC can sue to get more money for unsecured creditors, but reorg'd debtor suing for benefit of
equity holders, who are at bottom of payout waterfall
Cts may look to the DS & the plan to see if CoAs were specifically & unequivocally retained to survive post

confirmation - In re TX Wyoming Drilling

o
Holding: Where plan & disclosure statement reserved right to pursue avoidance actions against pre
petition SH of TWD, reorg'd debtor specifically & unequivocally retained these claims; trustee has standing to pursue
avoidance actions

51

Rationale - United Operating - disclosure statement primary notice mechanism informing creditors vote
for/against plan; put them on notice of any claim debtor wishes to pursue post confirmation

TWDs disclosure statement specifically mentioned avoidance actions, possible amount of

recovery, basis for actions, & that reorg'd debtor intended to pursue claims; much more specific than in
United Operating
United Operating focused exclusively on the retention of claims; never held that intended Ds

had to be named in plan

Categorical reservation of preference claims was sufficiently specific; didnt need to list
every preference transfer

Only creditors need to be told in plan that actions will be pursued post petition, not
prospective Ds
o
Factors Showing Specific & Unequivocal: Plan had section retention of CoAs & provided that reorg'd
debtor shall retain all rights, claims, defenses, & CoAs including, but not ltd to, BE actions & shall have sole authority
to prosecute/settle actions; estate actions includes claims under chpt 5 of BC
Disclosure statement also said debtor reserves all rights to pursue, at its sole discretion, any BE

actions not ltd to but including any preference to the full extent allowed under BC & applicable state laws

Debtor may also pursue other actions including but ltd to actions under 542 & 549 of BC
Estate actions defined to include various potential avoidable transfers that can be recovered

under chpt 5

Disclosure statement had chart outlining various claims/CoAs debtor/reorg'd debtor could bring
on behalf of BE

Potential Ds included various pre petition SH of debtor who might be sued for fraud
transfer & recovery of dividends paid to SH; claim valued at 4mil
Info that would indicate specific & unequivocal
o
Name of prospective D/s
o
Background of suit
o
Legal basis of CoAs
o
Amount of dmgs - w/o including money amount, creditors wouldnt know value of suit

Also, potential Ds looking at plan packet wouldnt know how much they might be sued for
Texas Wyoming - if you identify that youre gonna go after avoidance actions, might be ok w/o

including amount of dmgs b/c schedules will indicate payments that were made w/in 90 days of filing

Was specific & unequivocal to reserve CoAs based on avoidance actions w/o including
name of D & amount of dmgs; identification by category of suit was sufficient & unequivocal
Kaim - it is good enough to say that trustee will have discretion to bring following CoAs listed by categories & if
available, some specifics about CoAs
o
b/c disclosing to creditors who will be making determination about claims, creditors will know that attnys
will be good enough for the creditors & will rely on their discretion
Dont want to waste estate assets trying to track down every CoA prior to plan confirmation

Is it incumbent upon DIP to track down every CoA & identify it prior to plan confirmation or lose it?
o
If thats the rule, it would benefit putative wrong doer (D) & hurt creditors
Nondisclosure of CoAs in Schedules - 521(1) - debtors under continuing duty to disclose all pending & potential claims
If debtor fails to schedule asset & trustee later discovers it, the trustee may reopen bkcy case to admin asset for
creditors
541(a)(1) - virtually all of debtors pre petition assets, including CoAs, vest in BE upon filing, thus TIB, as rep of
BE, is PiI & is only party w/standing to prosecute CoA belonging to BE once petition is filed
554(d) - In chpt 7, at close of case, prop of BE thats not abandoned under 554 & thats not admin'd in bkcy
proceedings, including prop never scheduled, remains prop of BE
o
Upon abandonment, TIB is divested of control of prop b/c its no long part of BE & it reverts to debtor;
Debtors rights in prop treated as if bkcy never filed
Judicial estoppel: need (1) party took position clearly inconsistent w/prior one; (2) ct accepted prior position; (3)
nondisclosure must not have been inadvertent
o
Inadvertence - debtor lacks knowledge of undisclosed claim or has no motive for concealment
o
Judicial estoppel applies to bar unscheduled claims when others (debtors/insiders) would benefit to
detriment of creditors if claim allowed to proceed
In re Superior Crewboats - debtor injured getting off ship owned & operated by D; he later filed for chpt 13 &
failed to disclose potential claim
o
While bkcy case pending, debtor sued D w/o amending schedules

52

Case converted to chpt 7 & at creditors meeting, debtor disclosed CoA to trustee, but rep'd it was
proscribed by SoL
o
TIB formally abandoned CoA under 554 & interest reverted to debtor; debtors continued to pursue claim;
D informed TIB, who moved to reopen bkcy case
o
Ct held debtors were barred from pursuing their claim under judicial estoppel; granted MSJ to Ds,
thus TIB couldnt substitute himself in as PiI b/c TIB had abandoned the claim

National Union Fire Insurance - Superior Crewboats doesnt require applying judicial estoppel here b/c TIB
never abandoned the CoA, thus he could substitute in as the real PiI
o
Difference b/w cases where prop isnt scheduled but is disclosed & admin'd & cases where prop wasnt
disclosed or admin'd
o
Facts - SK in car accident while DC was acting in scope of employment for Qwest
SK filed suit in state ct; while suit was pending, SK filed for chpt 7 & failed to list PI CoA on

schedules

Bkcy resulted in no asset discharge, after which Ds in state ct filed MSJ

o
Rationale - Unlike Superior Crewboats, TIB here real PiI & has reopened SKs bkcy to pursue claim for
BEs creditors

SK benefits only if theres surplus after all debts & fees have been paid
Only way SKs creditors are harmed if claim is pursued is if judicial estoppel barred TIB for

pursuing claim
o
5th cir said that b/c claim wasnt administered in case/abandoned/disclosed, under 544 it was still
part of the estate & trustee could pursue claim

It was trustee, not debtor, trying to recover & it wanted recovery to make distributions to
creditors
Wont use estoppel against an innocent trustee b/c of something the debtor did wrong

Prop of BE or Not - If CoA alleges indirect harm to creditor & debtor couldve raised claim for its direct injury, then CoA
belongs to BE -In re Seven Seas
If CoA doesnt explicitly/implicitly allege harm to debtor, CoA isnt prop of BE

Facts - bondholders brought fraud/neg misrep claims against corp that worked for debtor
Holding - bondholders claims allege an injury that is more than merely derivative of injury to SSP; fraud & aiding

& abetting claims against CEO both involved direct injury to bondholders
o
Bondholders allege injury that isnt merely derivative of injury to SSP & SSP couldnt have asserted
claims as of commencement of bkcy case, thus claims arent prop of BE

Rationale - whether CoA belongs to BE depends on whether under applicable state law the debtor couldve raised
claim as of commencement of case; look at nature of injury & relationship b/w debtor & injury
o
Just b/c there are common parties in bkcy & bondholders suit doesnt make bondholders claims prop of
BE
o
Fail to see what specific injury SSP wouldve suffered b/c of CEO's defrauding bondholders
o
SSP wouldnt have been in position to bring fraud claims at commencement of bkcy case b/c it wouldnt
have been in a position to assert bondholders reliance on misrep or to claim dmgs from reliance; same true for aiding &
abetting claim
o
Claim isnt prop of BE just b/c it could be brought by # of creditors (ie generalized injury/grievance)
Comes down to whether creditor has a direct CoA or a derivative CoA

o
Fraud on corp by insiders is a CoA that belongs to corp, but would involve suing itself; bondholders
would have derivative claim
o
Had thought that direct & derivative claims are mutually exclusive; has to be one or the other

Seven Seas makes it more like a ven diagram, where there can be overlap b/w direct & derivative
claims

Even though corp got defrauded, bondholders also got defrauded b/c they thought there
was a max amount of debt thatd have priority over their claims that didnt end up being the case
Plan cant control a creditors direct claim; can only release the estates CoA

53

Proposing the Plan of Reorg: Exclusivity, Classification, Impairment and Good Faith
Plan Key Elements: (1) working out financing; (2) assessments of places where debtor can exercise max leverage
Most important requirement is that statutory majority of each class of impaired creditors must vote to approve the

plan for it to be confirmed

o
Debtor must negotiate w/creditors b/f hand so that it will be acceptable to most classes, while still
meeting reqs of 1129
Reorg Structures - typically extension of credit & reduction of debt
Issue new stock - debtor pays creditors w/stock in reorg'd biz b/c it doesnt expect large future cash flows to pay

debts
o
Can also issue warrants that allow recipients to buy more stock in the future

Going concern sale - sale of debtor as an operating unit w/proceeds going to creditors
o
Might be done as a sale of assets or a sale of the debtor's stock
o
Sometimes buyer wants to "purchase" existing mgmt, including employment Ks binding key personnel;
other times new owner wants to get rid of old mgmt & bring in its own team
Sale of assets - sell of tangible assets of the debtor, but not as a going concern; can be done as a package or asset

by asset
o
Can be sale of a whole part of debtor's biz, a division/line thats profitable or one that didnt do so well
but the buyer thinks it can turn around

Eventual structure of reorg plan is often driven by tax concerns; once parties decide on basic econ trans,
details governed by how they can maximize tax benefits associated w/particular deal
Sec 1112 - Conversion/Dismissal: Bad Faith - If filing was in bad faith, dont even get to forming of plan to get confirmed
b/c case will get dismissed/converted to chpt 7

Finding of bad faith wouldnt be improper after review of all facts on remand; unless record clearly warrants a
finding of bad faith, debtor should be given chance to respond to charge of abusing bkcy process
o
Debtor cant counter charge of bad faith solely w/attempt to relitigate issues in state ct case
Lack of good faith in filing can constitute cause for lifting AS to allow foreclosure or dismissal of case - Little

Creek

Facts - debtor filed state ct claims to preempt foreclosure & couldnt afford bond to keep foreclosure at bay so it
filed for bkcy
Holding - evidence presented to bkcy ct not sufficient to show lack of good faith by debtor; no witnesses

presented & debtor not given prior notice of issue which was raised for first time in motion to lift AS

Rationale - have to commence bkcy in good faith; balance interests of debtor & creditor & protects judicial
integrity of bkcy ct
o
Such findings based on 362(d) or 1112(b) based on patterns & factors:
Debtor has one asset, ie tract of undeveloped land,

Secured creditors liens encumber one asset

Generally no employees except principals

little/no cash flow & no available sources of income to sustain reorg plan or make adequate
protection payments
Few if any unsecureds; those that do exist have relatively small claims

Prop foreclosed b/c of default on debt secured by prop & debtor unsuccessful defending against
foreclosure
Debtor & creditor at stand still in state litigation & debtor has lost/cant afford required bond

Bkcy only opportunity to stall foreclosure

o
Using bkcy to stall foreclosure in these circumstance improper b/c no going concern to protect; no
employees, no hope of reorg debtor
o
New debtor syndrome - one asset entity created/revitalized on eve of foreclosure to isolate insolvent
prop & creditors exemplifies bad faith
Have to be an OPERATING single asset biz to file in good faith - Humble Place Joint Venture

o
Facts - HP developer, but mkt slow; biz was mostly mowing grass to maintain lots & no employees; filed
chpt 11

At time of filing, HP had 110k in bank & 600-700k in other unencumbered assets
Plan called for HP to repay secureds in full by liquidating through abandoning prop to secureds

o
Holding - b/c debtor didnt file in good faith, its petition was properly dismissed for cause
o
Rationale - HP not an operating single asset biz (like hotel or restaurant); all itd been doing for yrs is
mowing lawn & waiting for mkt to turn

54

Most of Little Creek factors indicating bad faith were present here; two distinctions from Little
Creek

Bkcy ct found HP filed for chpt 11 to cleanse ps of liability; impermissible purpose

cast doubt on good faith

Ps alleged interest in maintaining their equity didnt add up b/c thered be no equity left
to pship if creditors foreclosed & all unsecured, non insiders were paid
Ps afraid of paying out of their own assets for undersecured debts

Personal guarantees of nondebtors arent a legit concern of chpt 11

Instances where one asset real estate ventures would file for chpt 11 in good faith - Humble Place JV
o
Asset operating biz, hotel/restaurant
o
Development might be nearing end of construction, whose completion would enhance assets value
o
Venture including undeveloped prop to protect true owner equity when mkt conditions suggest remedy of
debt restructuring as opposed to just liquidation
Sec 1121 - Exclusivity - Who gets to file plan?
For 1st 120 days, exclusive right to file plan belongs to debtor
o
If dont w/in those 120 days, have an additional 60 days to amend plan & get approval from creditors for
confirmation
Bkcy judge cant extend exclusivity beyond 18 months (sec 1121(d(2)(A))
Creditors can come in & ask to reduce period of exclusivity & debtor can ask to extend period of exclusivity,
subject to limit of 18 months
o
Debtors fight to retain exclusivity for as long as possible; if debtor only one who can file plan, plan will
be favorable to it
In re Adelphia Communications Corp - bkcy ct's decision not to reduce exclusivity period, when Chapter 11
debtors alone could propose plan for confirmation, was not abuse of discretion; debtors had used exclusivity periods to develop
plan for sale of assets and that would bring in $17.6bil
o
debtors were not prolonging exclusivity period in order to pressure movants, and reducing
exclusivity period would imperil sale and could result in dire consequences
plan reserves funds to pay claims in full w/post petition interest if creditors win

o
Have to show cause if you want to end exclusivity period early
1123 - what shall be in a plan (a) and what may be in a plan (b)
Sec 1122 - Classification
(a) Except as provided in subsection (b) of this section, a plan may place a claim or an interest in a particular class
only if such claim or interest is substantially similar to the other claims or interests of such class.
o
Cannot put dissimilar claims in the same class, only prohibition
o
Governs permissible inclusions of claims in a class rather than requiring all similar claims be grouped
together
o
If 1122(a) were wholly permissive, thered be no need for 1122(b) to authorize separate classes for smaller
claims
(b) A plan may designate a separate class of claims consisting only of every unsecured claim that is less than or
reduced to an amount that the ct approves as reasonable and necessary for administrative convenience.
o
Can have a separate group of small claims - convenience class
Proper classification essential to ensure creditors w/similar priority are treated similarly
Lots of flexibility in number of classes & how theyre defined, but not w/o limit
In re Berhnard Steiner Pianos - separate classifications of similarly situated creditors is allowed if based on good
biz reasons
o
Facts - owner borrowed funds from debtor w/o repaying on a timely basis & then biz dropped off; had to
go into chpt 11
Plan for reorg called for paying consignment claimants right away so that they could get new

consignment biz to keep debtor operating; all debtors would be paid 100% under the plan

Through mgmt during bkcy case, owner single handedly kept biz going

Plan classified consignment claims & gen unsecured differently; gen unsecureds
objected
o
Holding - Debtors need for future consignment biz (& couldnt get it if debtor didnt pay in a timely
fashion) was a good biz reason for separately classifying consignment claims & paying them right away
o
Rationale - substantially similar claims (those which share common priority & rights against BE) should
be placed in same class & cant put them in different classes to gerrymander voting

55

Classification & Single Asset Case - some cts have taken aggressive stand against SARE cases, holding filing bkcy
to deal w/single large creditor is a bad faith filing & dismiss cases out of hand
o
Other cts cant find any indication in BC that such cases are ineligible for bkcy relief, but many cts hostile
to using chpt 11 for little more than stripping a commercial mortgage
Typically, large commercial lender w/mil in claims vows to vote no, so debtor separates a few

small claims (eg trade debt) into a separate class to vote yes & then use cram down to get plan approved

1129(a)(10) - need at least one impaired class to vote to approve plan for confirmation
o
Some cts hostile to grouping small claimants together to gerrymander vote to get approval from one
impaired class
In re Greystone - 5th Cir - need good biz reasons for separate classifications of similar claims; thou shalt not
put similar claims in different classes
o
Facts - Phoenix had lien on building owned by Greystone; P loaned 9 mil, building worth about 5.5 mil,
leaving 3.5 mil of unsecured debt, G also had trade creditors owed 10k
Plan classified P & trade creditors differently to get vote of trade creditors for approval of the

plan
o
Holding - there was no reason for different classification of P & trade creditors b/c it would allow
gerrymandering that would make 1122(b) useless
o
Rationale - couldnt make classifications for the sole reason of getting necessary vote to approve plan

Cant put undersecured part of claim of secured creditor in different class from other unsecured
creditors
If 1122(a) allows classifying substantially similar claims in different classes, it can only be done

for reasons independent of debtors motivation to secure vote of impaired, assenting class of claims

Making classifications just as a way to get plan approval wont be a good enough reason
for classifications; need limit on power to classify

1111(b) - provides undersecured creditor choice w/respect to deficiency claim; can choose
recourse status & have right to vote in unsecured class or forego recourse to gain an allowed secured claim for full
amount

Likely creditor would have to elect to take allowed secured claim under 1111(b) in the
hope that collateral goes up in value after case is closed
No evidence was offered to explain why creditors were classified differently

o
Ct wasnt happy that this was basically a 2 party claim & the debtor was trying to cram down the creditor
by having small amount in its own class
o
Classification & treatment of claims not the same, but even if plan had treated P & trade creditors
differently, the classification scheme would still be improper

evidence of differences of the types of claims to support reasons for different classifications
In re US Truck - 6th Cir - all 1122 requires is that dissimilar claims cant be in the same class; doesnt address
similar claims in different classes
o
Facts - Carved out claim from union & put it in separate classification from other unsecured creditors
o
Holding - all that 1122 says is that dissimilar claims cant be in the same class; doesnt say that all similar
claims have to be in the same class
o
Rationale - unions rejection claim was different w/o explaining how it was different

Cong changed language in passing 1122 to make it less restrictive, implying that cong no longer
intended to impose requirement that similar claims be classified together
There must be some limit on debtors ability to classify differently similarly situated creditors to

prevent gerrymandering

Cts have broad discretion to determine proper classification based on factual

circumstances in each case

Dist ct found that teamsters differed from other creditors; had a different stake in future
of reorg'd debtor
Teamsters had noncreditor interest in rejecting plan, rejection would benefit

teamsters in ongoing employment relationship

Teamsters still protected by requirements that plan be fair & equitable & not discrim
unfairly
In re Loop 76 - 9th Cir Bkcy App Panel
o
Facts - classified deficiency claim from other general unsecured creditors
Rational of debtors was that the deficiency was guaranteed by individual guarantors where as

gen unsecured claims didnt have guarantors

56

Holding - guarantee claim is dissimilar from general unsecured claim & thus statute says it cannot be in
same class as gen unsecured claims

Uphold confirmation of plan & classifications

o
Typically, look to legal nature of claim held by creditor against the debtor
If theres a different legal claim against a non debtor (another source to collect from that other

unsecured creditors dont have), thats dissimilar & that creditor needs to be in a different class

Once plan confirmation hearing is started, its an incentive for the parties opposed to the plan to compromise &
settle; but thisll never happen if theres never a confirmation hearing
o
Debtors attnys have little chance of getting ct approval of fees if plan isnt confirmed
1124 - Impairment - whether class will be completely protected under plan;
unimpaired keep all their rights & get paid in full
1129(a)(8)(B) - debtor doesnt have to get approval of plan from unimpaired classes b/c theyre deemed to accept,

1126(f)

If a class is unimpaired, 1129(a)(7) best interests test is met by default

Central question of whether its legal impairment, econ impairment, or combo

o
Question related to cram down & APR & best interests test

1129(a)(1) - Debtor needs to walk tightrope: offer good enough terms to get classes to approve plan while still
having classes not get 100% so theyll be impaired, giving debtor needed consenting impaired class to cram down plan
In re PPI Enterprises

o
Facts - PPIE rented office space w/lease & line of credit guaranteed by parent corp, which went into bkcy
overseas

PPIE had credit canceled & went into bkcy itself after defaulting & failing to cure lease
Plan divided admin claims & priority tax claims into 4 classes; lease claim treated as gen

unsecured; PPIE said approval wasnt necessary as none of the classes were impaired

Solicited votes anyways & unsecured class only had 2 ballots cast, one yes & one no

Bkcy ct said that b/c lessor was unimpaired, his no vote didnt matter b/c he was deemed to
accept
o
Holding - lessor only entitled to rights under BC, including 502(b)(6) cap; plan that provides to pay
entire allowed claim under BC doesnt alter claimants rights, thus hes not impaired & deemed to accept plan
o
Rationale - 1124(1) - claim is unimpaired unless the plan alters the legal, equitable, Ktual rights of
claim/interest holder
Two distinct concepts: plan impairment (debtor alters rights of claimant) & statutory

impairment (BC provisions alter amt claimant gets based on nonbkcy law)

Impairment only results from what plan does; impairment cant come from statute
In re Windsor on the River Associates - SARE case where plan proposed to pay unsecureds in full 60 days after

confirmation; Ct held it was artificial impairment & denied confirmation

1141(d)(3) - Liquidating Plans - Chpt 11 debtor may be denied discharge upon
confirmation if

Plan provides for liquidation of all/substantially all of the prop of BE

Debtor doesnt engage in biz after consummation of plan

Debtor would be denied a discharge in chpt 7

57

Disclosure Statements & Solicitation

Disclosure Statement - 1125

Proponent of plan has to draft a disclosure statement w/adequate info on debtors

affairs/financials so that creditors can make an informed vote

disclosure statement has to be approved by ct after notice & hearing & then must be transmitted to all
creditors/equity security holders along w/plan or summary of it
Prohibits post petition solicitation of acceptances/rejections of a plan prior to sending
out plan & ct approved disclosure statement
1125(a)(1) - adequate info - enough info must be given, as is reasonably practicable, to
enable a hypothetical reasonable investor w/attributes of the members of the class in question to make an informed judgment about the
plan
DS usually has history of debtor, description of its biz ops, explains plan, & alerts parties to options available

under plan

Provides financial info so that creditors can know the likelihood of successful reorg, as well as liquidation value of
debtor
Krystal Cadillac - if potential CoAs arent disclosed in schedules, debtor can be judicially estopped from pursuing

those CoAs
o
KC took inconsistent position by not listing CoAs in schedules
o
Bad faith assumed when statements in pleadings show knowledge of claim & motive to conceal in face of
affirmative duty to disclose
o
Debtor has to disclose any litigation likely to arise in non bkcy context
o
KC trying to minimize assets so creditors would have no choice but to compromise their claims approve
plan
Required Disclosures

In re Malek - min required for disclosures

o
Description of biz - info about nature of biz to be reorg'd under chpt 11
Must include competitive conditions in industry & debtors role in industry

Must disclose whether debtor is dependent upon one/more clients/customers

If debtor licensed professional who charges by the hr, must provide good faith estimate of

number of clients, anticipated services, hrly rate, and anticipated annual billings

Should provide description of services, location of principal & branch offices, employee staff &
payroll, salaries of officers & directors
Should disclose/describe any special prop interests (patent, license, franchise, etc.)

o
History of Debtor pre filing - should describe activities b/f filing & reasons for filing

Should be neutral, objective, noninflammatory

Litigation issues to be described in objective professional tone

Should include evaluation on probable outcomes of litigation & how itd effect plan
o
Financial info - statement of assets/liabilities w/profit/loss analysis b/f filing chpt 11 petition

Must provide financial info sufficient to inform creditors of all liens, encumbrances, security
interests, loans or other financial obligations which may impair debtor/BE assets
o
Description of plan - must describe plan in sufficient detail to give creditors enough info to determine
how their rights will be affected
o
How plan is to be executed
o
Liquidation analysis
o
Mgmt to be retained & compensation of personnel retained
o
Projection of operations - provide projection of operations following confirmation so ct may determine
feasibility
Required to make full, clear, & complete disclosure of all underlying assumptions

Must provide sufficient financial info to determine if projections for operations following
confirmation are feasible

If plan assumes increase in income, DS must include basis for assumption

If future operations contain risk of loss of income or anticipated financial instability,

factors leading to these problems should be set forth
o
Litigation - all pending or contemplated litigation of any nature must be described fully, completely, and
in detail
Trial dates, if known, must be disclosed as well as filed/contemplated appeals

58

Must include a professional evaluation of probable success of any pending/contemplated

litigation
Trans w/Insiders - must described fully, completely, & in detail all trans w/insiders; if no such trans, DS
should say so
o
Tax consequences - must reveal probable tax consequences if plan is confirmed
If no tax consequences, DS must contain affirmative statement to that fact

Problem that many DS overestimate projected earnings/income, forcing creditors to adjust projections downward
to have accurate picture of reorg'd biz's potential
Mgmt may also understate value of biz to persuade creditors to accept lower payouts than if biz had been

accurately valued
1125(b) - acceptance/rejection of plan cant be solicited after filing unless, at or b/f
solicitation, creditor/interest holder is sent copy of the plan/summary, DS approved after notice & hearing

Ct can approve DS w/o valuation/appraisal of debtors assets

Has section saying who gets what under the plan

Hearing held on disclosure statement, where creditors get opportunity to object to disclosure statement
o
Resolve most disclosure statement objections by putting in the objections of the creditors & the responses
of the debtor
even handed approach b/c it informs creditors whats going on

o
Disclosure statement hearing often used by creditors to voice concerns about proposed plan & why the
will object to plan at confirmation

Hearing just supposed to be on adequacy of disclosure statement

Century Glove v. First American Bank of NY - no violation if theres not specifically a solicitation of a vote to

accept plan
o
can give proposed draft to get creditors to vote no on proposed plan so that theyll support your proposed
draft
o
solicitation is to be read narrowly & FAB was requesting opinions on its plan, not soliciting votes

Reject any definition of solicitation which might cause creditors to limit their negotiations
A party doesnt solicit acceptances when it presents a draft plan for consideration of another

creditor but doesnt request creditors vote

o
1125(b) doesnt empower bkcy ct to require that all comms b/w creditors be approved by bkcy ct
o
1125(b) limits time when creditor may be solicited, NOT the facts creditor can receive

Doesnt limit info available to creditor, but guarantees min amount of info to creditor asked to
vote
Sets a floor, not a ceiling

Once adequate info provided, 1125(b) doesnt limit comms b/w creditors; its not an anti fraud
device
1125(e) - safe harbor provision - protects people who violate non bkcy regs in
soliciting votes as long as they acted in good faith & in accordance w/BC; cant have had knowledge of defect/omission in DS
Protects mostly against SEC violations made in good faith

Key is that votes cant be solicited until disclosure statement is approved

Exception - prepackaged plan thats actually solicited b/f filing; plans that were done b/f filing where there was a
vote on the plan b/f filing
o
Picks up best of both worlds & takes most of process out of ct house & outside BC rules
Operates similarly to regular chpt 11 but based on agreement of parties rather than orders of the

ct

Debtor & key creditor work out restructuring of debt, often including substantial debt
forgiveness, infusion of new cap, & promise of future credit
Go into chpt 11 to take advantage of needed provisions of reorg; eg cram down, AS, compelling

dissenting creditor to go along through class approval of plan, avoiding preferences/fraud transfers etc.,
discharging certain debts, etc.
o
Can move very fast compared to normal chpt 11; get plan confirmed w/in weeks of filing

Good for corps concerned that announcing bkcy will hurt biz b/c they get in & out really fast
o
Key component - prebkcy negotiations w/eye toward moving corp into bkcy once details are confirmed
among major players
o
Governed by SEC rules if applicable or other applicable state law
o
Plan & disclosure statement prepared b/f filing & vote take & then bkcy if filed & thered be a prompt
confirmation hearing if adequate disclosure was given under applicable rules prepetition
o

59

Some case law sustains objections that solicitation wasnt proper under SEC, state rules, or
failed to give adequate notice

Prepackaged plan made too quickly & now have to resolicit under bkcy rules
o
Two Questions w/Prepackaged Plans: (1) what law governs solicitations & (2) will pre filing
solicitations be effective for post filing confirmations
1126(b) - deems pre petition votes to be effective in bkcy proceedings so long as the pre petition

solicitation complied w/all applicable disclosure laws & regs

If no applicable SEC/similar regs, solicitations effective if they comply w/1125(a)

If solicitation done post filing, 1125 applies like normal, but case slows down while waiting for
ct approval of DS
o
1125(g) - debtor that began solicitation pre petition can continue if solicitation complied w/applicable
nonbkcy law; comes into play when debtor forced into involuntary bkcy by creditor seeking to derail prepackaged plan
o
341(e) - meeting of creditors waived in prepackaged bkcy
o
Many object to prepackaged bkcy
Dont make same disclosures as required in chpt 11, allowing debtor to steamroll dissenting

creditors who have trouble getting info they need

Prepackaged bkcy debtors more likely to go back into bkcy than normal chpt 11 debtors
Operating losses of prepackaged debtors greater than operating losses of normal chpt 11 debtors

when reorg fails

Prenegotiated plan - make disclosure statements & plan & get feedback on them b/f filing, but dont do
solicitation to vote on plan until after filing; solicited post filing
o
Then have disclosure statement hearing followed by solicitation upon approval of disclosure statement
o
Gets around problem of having prefiling solicitation being challenged as being too fast or improper
o
More common to have plan negotiated b/f bkcy & then solicit in bkcy than to have prepackaged plan
voted on b/f bkcy
Once disclosure statement is approved, plan of reorg & disclosure statement can be sent
to creditors for solicitation of approval
b/f approval of disclosure statement, only certain parties (UCC, UST, creditors who requested it, etc.) could view

the disclosure statement

Creditors send ballots to voting agency who tallies votes; debtor typically pretty sure of who will vote for &
against plan ahead of time having talked to creditors
o
If there arent enough votes, change plan b/f soliciting votes
As a matter of practice, debtor wants all comms w/creditors approved, not just
disclosure statement (ie ballot for plan, solicitation letter, etc.)
If exclusivity has terminated, could have competing plans
Same 1125 applies; no one can solicit votes until they get an approved disclosure statement

Usually debtor will include main disclosure statement w/historical info pertaining to debtor & other plan
proponents will create supplements to gen disclosure statement that describes specifically their competing plan
o
Usually parties will agree that different disclosure statements can go to creditor in same package w/each
corresponding ballot
o
Want plans going out at the same time & being heard at same time
Dont want one plan proponent getting out ahead of other plan proponents unless theres a good

reason (hard to imagine if exclusivity has expired)

Sec 363 sale - conducting sale by motion rather than under a plan

Can bring objection that creditors not being provided same procedural safeguards as in a plan process
o
Safeguard might be lack of adequate info; could be sustained on that basis
Unlikely judge would sustain sale just b/c there was no disclosure statement (would look at

circumstances)
Classes set forth in plan of reorg & defined in disclosure statements

Objections to classification are plan confirmation objections & should be lodged b/f confirmation hearing
Often brought up at disclosure statement hearing

Usually, if classification was improper, would have to resolicit; plan denied confirmation
o
Typically, big creditor misclassified & the claim would be big enough to defeat the plan
Sometimes, plan proponent send out disclosure statement w/terms that voters
wont like knowing they can negotiate for votes by sweetening deal through amending disclosure statement/plan
Almost never is 1st plan out there the one that gets approved; continue to negotiate plan as solicitation is made

60

Solicitation & Voting

502 - sets out who has a claim & who gets to vote in chpt 11
Acceptance of plan 1126(c) - a class of impaired creditors accepts a plan when 2/3 of
the voting $s in the class approve of the plan & 50%+1 of the voting members of the class approve the plan (excludes votes that are
designated under 1126(e))

if only one class member votes, then the class approves/rejects based on his vote
1126(d) - class of impaired interest holders accepts a plan when 2/3 of the voting $s in the class approve the plan

(excluding votes designated under 1126(e))

Prevents holdout problem; cant have single dissenting class member hold plan confirmation hostage (unless they
have a blocking position)
1126(e) applies to parties w/claims whose votes are procured or cast in bad faith; not
looking at substance of claim but how the party voted & was solicitated
Century Glove - 1126(e) allows the ct to designate or not a voter; doesnt allow for other remedies, like paying

costs

In re DBSD - designation proper when voter not trying to protect its own proper interests, but instead were trying
to obtain some benefit it wasnt entitled to
o
Votes w/hopes that someone would pay them more than their share of the BE or w/ulterior motives
o
Ulterior motive - creditor buying position, sought to defeat plan, & then proposed own plan to give
creditor control of debtor
Affiliates of debtors creditor buying claims to obstruct reorg of debtor

Affiliate of debtor buying claims not to collect on them but to block competing plan
o
DISH a competitor of DBSD & tried to buy a blocking position
o
as designated claims are disregard , when a whole class is designated it too should be ignored when
confirming plan
1126(f) - if youre not impaired as a creditor, you dont have to be solicited b/c youre
deemed to have accepted plan
Not impaired if youre rights arent being altered or if your K is being cured - 1124

o
If youre paid in full in cash at confirmation or if K is cured, then youre not impaired & deemed to have
accepted the plan
1126(g) - if youre not getting anything under the plan, youre deemed to have objected
the plan & so your vote doesnt have to be solicited
Impaired creditors & shareholders who are receiving something have to be solicited
UNLESS their claim is designated under 1126(e)
When solicitation package goes out, its at least a 25 day notice period (usually longer)

Need good cause to shorten notice period

For disputed claims (listed as disputed on schedule or creditor filed proof of claim &
debtor/creditor objected) generally dont vote unless they file a motion for temporary allowance
Judge has hearing to determine what amount, if any, creditor will get to vote; usually agreement is reached as to

how much creditor can vote

If motion not filed, disputed claims, in theory, dont get to vote

b/c voting is done by class, debtor might try to gerrymander classes to get an impaired
class that would approve plan so it can be crammed down on objecting classes w/1129(b)
Plans are accepted by classes, not individual creditors; best interest & feasibility
protect individual creditors, but otherwise, majority of class binds them all
Blocking Positions - Creditors who oppose plan (secured or unsecured) can buy up
50% of claims or 1/3+ of dollar amount of claims to try to block confirmation; assuming all claims will vote
Buying 5 separate claims will be treated as 5 separate claims when voting on confirmation

If debtor wants to pay off claim to stop this, it would have to pay off full amount & debtor isnt allowed to favor
one creditor over another
o
Could find someone who supports debtor to pay off claim in full or buy it from creditor opposed to plan
Can buy/sell a portion of a claim (split a claim) provided its disclosed on 3001 form; BR 3001 - file a notice of

transfer of claim

If creditor buying up claims is a competitor trying to torpedo the plan so it can steal all the debtors clients, could
designate/strike those votes under 1126(e)
o
BUT would need to provide sufficient evidence to show that votes were made in bad faith
Buying a large portion of debt owed a class, but not necessarily a blocking share, can give creditor leverage to

negotiate for better treatment of entire class

61

BR 2004 - any entity can take deposition of debtor; Can be a free for all that lets parties find out info about who
debtor owes money so they can buy up claims
UCC reps interests of unsecured creditors as a whole; attny for UCC faces dilemma if someone buys up enough
claims to block confirmation & demands liquidation, even if reorg would pay out more
o
If no plan was confirmed, creditor would argue that theres no tangible, identifiable, benefit to estate, so
UCC attnys shouldnt get their fees
o
UCC sets up rules for how to vote on approving course of conduct/what attnys for UCC should take on
behalf of UCC
o
Committee members have qualified immunity

if theyre acting in good faith, then cant be liable for not going along w/creditor, but would at
least have to listen to him & report his request to rest of UCC

62

Confirmation - 1129

o
o

o
o

o
o

2 step process to getting to confirmation

Disclosure statement - really a procedural matter
Confirmation hearing - if contested, can last months
Creditors have 2 weapons to stop confirmation: voting & objecting based on legal requirements
Protections for Dissenters w/in Class - plan approved by class, but creditor part of minority

that voted against plan

1129(a)(3) - plan has to be proposed in good faith; look at totality of circumstances

o
Gives individual creditors opposed to plan to object to plan after their class has confirmed plan
o
PWS Holdings - Dont standing to challenge based on 1129(a)(3) b/c 3rd party standing is limited on
appeal & cant show he was personally aggrieved by any alleged failure of disclosure

1129(a)(7) - plan has to protect each non-consenting creditors best interest; dissenting
class members wont be worse under plan than they wouldve been in chpt 7 liquidation
o
Burden on the PROPONENT of plan to show that creditors at least as good off under plan than in chpt 7
o
To get at least as much in plan as in chpt 7, 1129(a)(7) requires only that secured creditor get present
value of allowed secured claim - Briscoe Ent

1129(a)(11) - plan has to be feasible; cant be likely that debtor will need further
financial reorg or liquidate
o
Made in Detroit - if there are unmet conditions to financing arrangement, then plan isnt feasible
1129(a)(4) - ct shall not confirm chpt 11 plan unless any payment to be made for services/costs
in connection w/case/plan/incident to case has been approved by, or is subject to approval of the ct as reasonable

Cajun Elect Power Coop - payments dont have to be reviewed for reasonableness b/f
the payment is made
o
1129(a)(4) means that pre confirmation payments have to be approved by ct as reasonable b/f
confirmation; bkcy ct was correct in not approving SWEPCO plan until it had reviewed all pre confirmation payments
for reasonableness
o
Reasonableness of payments - those not paid/reimbursed by BE shouldnt be subjected to same judicial
scrutiny as payments by BE

If payment was for routine expense in connection w/plan & its not paid by BE, ct has little
reason to inquire further about amt charged
o
SWEPCO payments werent discrim under 1123(a)(4) b/c they werent made from BE prop or in
satisfaction of claims against debtor
1129(a)(8) - Classes must separately vote to approve plan of reorg
1129(a)(10) - requirement of plan confirmation is that debtor must get at least one non insider
impaired class to vote for the plan

Equity holders have an interest, not a claim; cant have an impaired class of equity
holders approve plan to satisfy 1129(a)(10)
o
Cant use a convenience class (1122(b)) to satisfy 1129(a)(10)

1126 - Need more than 50% of creditors numerically voting yes & the creditors voting
yes to have more than 2/3 of the debt of that class
1129(e) - plan has to be confirmed w/in 45 days after a plan complying w/BC is filed
1129(c) - if 2 or more plans have met requirements for confirmation, the ct considers preferences
of creditors & equity security holders in deciding which to confirm & only one plan can be confirmed
Best Interests of Creditors & Feasibility
Generally, acceptance of plan by statutory majorities of each impaired class is heart of
confirmation process, most of 1129(a) reqs go to confirmation process
Two legal requirements MUST be met for confirmation, even if all classes accept the plan

Plan must be in the best interests, 1129(a)(7), of each individual creditor who opposed
the plan

Plan must be feasible, 1129(a)(11), even if every creditor agrees to it

Feasibility - 1129(a)(11) - feasibility doesnt require guaranteed success of plan, but it needs to
have reasonable prospect of success & is workable

Test applied on a case by case basis, reflects best biz judgment of bkcy judge based on
testimony

Feasibility ultimate protection of dissenting creditors; protects against naivete of

other creditors b/c plan MUST be feasible even if all classes approve plan
o
As a practical matter, ct wont look too closely at feasibility if none of the creditors challenge it

63

In re Malkus Inc
Facts - debtor ran hotel, had franchise agreement terminated & found a new one w/different hotel chain
& took out 2nd jr mortgage w/o required consent of sr mortgage holder

Debtor defaulted on note & failed to make required tax, maintenance, improvement, insurance
payments
Debtor filed chpt 11 same day as MSJ hearing on foreclosure

Bank agreed to cash collateral order, but debtor failed to stay w/in budget or make payments
under the order

SH "loaned" money to debtor to keep it operating & had debtor repay "loans" w/o ct
approval
Debtor only made 1 adequate protection payment to bank

o
Holding - debtors plan isnt feasible & plan cant be confirmed
o
Rationale - Debtors past performance one of most important indicators of whether plan will succeed

Ct cant overlook historical poor operating results b/c of a few months in which debtor
met/exceeded projected revenues

Went over budget on expenses & experienced losses a few months during pendency of
case

In re Made In Detroit
o
Facts - debtor real estate developer; ran into trouble getting permits, defaulted on loans, & filed chpt 11
to stave off foreclosure
Plan called for 9mil in funding to be provided contingent on debtor paying 270k commitment fee

& 15mil valuation of prop & participation in loan of investors

Under plan, 9mil would be used to pay secured & admin claims in full & unsecured would get
initial 750k w/rest of claims paid from sale of lots; equity would keep their interests
o
Holding - plan fails to meet requirement that it be feasible, cant be confirmed
Debtor failed to show at confirmation hearing it had exit financing to fund plan & proposed

financing had so many contingencies that plan was conditional at best

o
Rationale - plan that is submitted on a condition basis is not feasible & confirmation must be denied

To provide reasonable assurance of success, plan must provide a realistic & workable
framework for reorg

Test - whether the things which are to be done after confirmation can be done as a
practical matter under the facts
Debtors plan not sufficiently concrete to be feasible b/c its contingent on financing & no

reasonable assurance loan will ever close or that prop will be appraised at a high enough value to secure loan

Conditions precedent to loan werent satisfied as of the date of confirmation hearing &
evidence didnt show the conditions would reasonably be met in foreseeable future

In re DBSD - plan had reasonable assurance of success b/c it deleveraged DBSD, likely
DBSD could obtain needed cap, little risk of default on secured obligations, & gen credit mkts had improved, increasing
likelihood DBSD could repay creditors
o
Some possibility of future liquidator or further reorg is acceptable & often unavoidable

TH New Orleans LP - Debtors plan is feasible where at least one of the alternative
proposals is feasible
o
Where projections are credible, based upon the balancing of all testimony, evidence, & docs, even if the
projections are aggressive, the ct may find the plan feasible; dont have to view econ prospects in worst light to
determine feasibility
Best interest test - 1129(a)(7) - requires objecting creditors/interest holders get at least as much
under the plan as they would in chpt 7

objection to plan can be raised by a single creditor b/c standard applies to each
creditor, not to classes as a whole

Ct must do a liquidation analysis to estimate amt that could be obtained by selling each
asset of BE & calculating resulting dividend that would be paid to objecting creditor

Entire analysis depends on VALUATION of debtors prop

SK-Palladin Partners v. Platinum Entertainment

o
Facts - PE in music biz, defaulted on loans & at time its biz had stopped operating & most employees
gone
Got 2 offers to buy music catalog but no sales went through, determined value at 15mil

Creditor agreed to fund plan that reorg of legal/financial affairs, resumption of biz, immediate
deposit of 1mil for unsecured claims & payment of 2mil to fund legal settlement

64

Holding - b/c PE offered uncontroverted evidence of value, bkcy ct reasonably relied on it to find plan
was in best interests of dissenting creditors
o
Rationale - objecting creditors didnt offer admissible evidence of catalogues value nor did it act
diligently in pursuing discovery of appraisals

Banks 33mil secured claim had to be paid b/f all others & bkcy ct determined there was strong
indication PEs assets not worth more than 33mil
Determination of whether creditors will be better off if plan is confirmed is for
creditors to make, not the ct
Once creditor objects, burden of proof is on plan proponent to show liquidation value
of corp in chpt 7 to determine how much creditor would get in chpt 7

65

Cramdown

Rule - to cramdown plan over dissenting impaired class, plan must meet all reqs of 1129(a) (less
(a)(8)) & reqs of 1129(b) as they pertain to each objecting class

If impaired class voted to approve plan, dissenting creditor in that class cant object to
plan based on 1129(b) provisions

Even if plan meets best interest test of 1129(a)(7), plan cant get confirmed if all
impaired classes dont approve plan, 1129(a)(8)

w/o consenting impaired class, 1129(a)(10), plan cant be crammed down

o
b/c creditors vote as class, sometimes debtor tries to gerrymander classes to get an impaired class to
approve plan (1129(a)(10)) or to put dissenting creditors into classes where theyd be outvoted
Doesnt matter how much approval vote was short under 1126 so long as all the other cram
down requirements are met

However, if a ton of the unsecured creditors voted no, UCC would probably try to
propose their own plan & terminate exclusivity or would bring their grievance to judges attention under some other provision

Usually the case where a substantial group of unsecured creditor voted yes, but not
enough for approval, and cram down is applied
Cram down requirements dont have to be met for classes that accept the plan b/c its not
being crammed down on them

Dissenting members of the class would have to object based on 1129(a) requirements
b/c they wouldnt have standing to challenge under the cram down provisions b/c the entire class is deemed to have accepted if
the requisite voting members/dollars vote to accept plan
1129(b)(1) - permits cramdown only if plan does not discrim unfairly and is fair & equitable

Plan has to be fair & equitable as to classes who voted no

o
Comes from absolute priority rule - 1129(b)(2)
1129(b)(2) - sets forth min reqs for a plan to be found fair & equitable; leaves room for ct to
impose any additional reqs in particular cases

(A) secured claims - As gen rule, liens of secured creditors must be preserved by plan &
creditors must be paid present value of allowed secured claim
o
(i) secured creditor will retain all of its liens & receive deferred cash payment equal to present value of
secured claim
Briscoe Enterprises - If plan meets requirements of 1129(b)(2)(A)(i), it doesnt have to also

meet other provisions in 1129(b)(2)(A) to be fair & equitable to secured creditors; dont read the "or" to be an
"and"

D&F Construction Inc - plan requiring creditor to assume worse financial position while
denying right to foreclose isnt fair & equitable

not saying negative amortization is never fair & equitable, but under the circumstances
plan is not fair & equitable b/c plan based on speculation that real estate mkt will improve in 15 yrs

A plan thats not fair & equitable w/respect to impaired secured creditor cant be
confirmed on basis that inequity is necessary to protect jr creditors; If mkt is such that fair & equitable plan
cant be formed, then MM entitled to foreclose
Interest rate for present value should be calculated at prime + Till v. SCS Credit Corp

Three factors leading to choice of prime + (formula approach)

Cong would favor approach thats familiar in financial community &

minimizes need for expensive evidentiary hearings
BC expressly authorizes bkcy ct to modify rights of any creditor whose claim

is secured by an interest in anything other than real prop thats debtors principal residence

From point of view of creditor, cram down mandates objective, rather than
subjective, inquiry
Doesnt require that terms of cram down match terms to which debtor

& creditor agreed prebkcy nor does it require that creditor be subjectively indifferent b/w
present foreclosure & future payments

Coerced loan approach, presumptive K rate, and cost of funds all improper b/c they
require subjective analysis & extensive evidentiary hearings to establish interest rate
o
(ii) plan can cause a sale of the asset, free & clear of liens, subject to 363(k) (credit bidding), w/liens
attaching to the proceeds, OR

Provide credit bidding under 363(k) in cram down context

363(k) - ct will allow credit bidding unless it decides otherwise for cause
Few cases where cause is found to deny credit bidding

66

River Road (7th Cir) - have to allow creditor to credit bid if the asset is being sold under the
plan; indubitable equivalence isnt a stand alone prong to meet 1129(b)(1)
o
(iii) plan can provide for the indubitable equivalent of the secured claim to the secured creditor
Battle ground in SCOTUS over this requirement b/c of conflicting opinions from circuits

Issue of whether indubitable equivalence is an independent prong or whether (ii) has to be met in
addition to indubitable equivalence
(B) unsecured claims - absolute priority rule
o
(i) unsecured creditor compensated w/prop worth present value of claim OR
o
(ii) NO junior class receives value on account of their claim or interest
(C) interests (equity interests/ownership interests)
o
(i) greater of present value of
fixed liquidation preference

Fixed redemption price

Value of interest

o
(ii) no junior interest can receive value on account of interest
1129(b)(3) new value exception/corollary to absolute priority rule
Requirements:
o
1) new money coming in
o
2) contribution is substantial
What is substantial measured against?

o
3) contribution made in money/money worth (cant be services/sweat equity/good will/etc)

Northwest Bank Worthington v. Ahlers - moneys/moneys worth doesnt include As promise to

contribute future labor & mgmt to reorg'd biz b/c its intangible, inalienable, probably unenforceable & cannot
be exchanged in any mkt for something of value to the banks

Viewed from time of approval of plan, promise of future services is intangible,

inalienable, & likely unenforceable
Has no new place in asset column on balance sheet of reorg'd debtor

Los Angeles Lumber - rejected cram down as violation of APR when SH pledged their financial
standing & mgmt skills to reorg'd biz b/c it was inadequate consideration that couldnt be deemed moneys worth

promise of influence/mgmt skills in future reflect merely vague hopes or possibilities

o
4) contribution was necessary for reorg
o
5) contribution reasonably equivalent to equity interest received
o
6) may have requirement that exclusivity terminated
SCOTUS has said right to file your own plan 1st is worth something - LaSalle

May have to terminate exclusivity to have new value exception apply

o
7) may have requirement of market test so that ct knows new value is reasonably equivalent to
contribution
LaSalle - market asset to have others come in to make bids on the asset so that process is more

open & fair

Can be hard to market asset in privately held corp context; what does it mean to market that asset
Could require hiring investment banker to go out & seek bids on the equity interest

Used as a means to cram down on unsecured creditors; judge made law

Provides mechanism where new money can come into the case & may come from old
equity owners & old equity owners would get new equity b/c of their contribution
o
Not getting new equity on account of old equity but b/c of contribution of new capital
Case v. Los Angeles Lumber - created new equity exception
Dont know if this exists or doesnt; SCOTUS hasnt said one way or the other
o
In LaSalle, SCOTUS spent a lot of time discussing new value exception, but said, no matter whether it
did or didnt apply, the requirements hadnt been met in this case b/c there was no market test & exclusivity was still in
effect
Basic idea is that money is money & why should old owners be cut out of bidding for
ownership in reorg corp

Indubitable Equivalent - 1129(b)(2)(A)(iii)

Sandy Ridge Development Corp - Transfer on plan approval of all its collateral to a secured
creditor, at a value properly fixed by bkcy ct, gives that creditor the indubitable equivalent of its secured claim

67

Plan giving creditor collateral securing allowed secured claim gives him the indubitable
equivalent of that claim
o
Secured creditor worried about collateral wants more than just interest payments; he wants money or the
prop; no reason to suppose statute was intended to deprive him of that unless by a substitute of the most indubitable
equivalence
In re Pacific Lumber - 5th Cir - plan that called for sale of secured asset w/o allowing secured
creditor to credit bid DID provide creditor the indubitable equivalent of its claim by giving it proceeds from the sale

Plan can allow sale w/o giving secured claimants right to credit bid if plan provides
the indubitable equivalence (ie value of claim in cash)

Whatever else indubitable equivalent might include, paying off creditors in cash = to
value of collateral meets the standard provided the plan accurately reflected value of collateral

BC only protects allowed secured claim, not upside potential a creditor could get by
credit bidding on collateral which could increase in value
o
Indubitable equivalence doesnt require more protection than whats in 1129(b)(2)(A)(i-ii)

506(a) says value of secured claim is value of collateral; indubitable equivalence =

abandonment of collateral
o
but present cash payments less than amount of allowed secured claim nor unsecured notes/equity
securities wouldnt be indubitable equivalent of secured claims; Future balloon payment also not indubitable
equivalent

Indubitable equivalent - includes concerns about repayment of principal & time value
of money
o
By offering cash = to present value, MRC/M plan satisfied both concerns; no need arose to afford
collateral or compensate for delay in repayment
In re River Road - 7th Cir - held that plan that denied secured creditor to credit bid at sale of its
collateral DID NOT provide indubitable equivalent of secured claim

1129(b)(2)(A)(iii) doesnt allow debtors to confirm a reorg plan that seeks to sell
encumbered assets free & clear of liens w/o providing secured creditors the right to credit bid b/c it only might provide
indubitable equivalence of claims
o
Cramdown plans that propose to sell of encumbered asset free & clear of liens must at least meet reqs of
1129(b)(2)(A)(ii)

plans that propose selling encumbered assets free & clear of liens could be approved
over secured creditors objections if sale allowed credit bidding under 363(k)

Two readings of 1129(b)(2)(A)(iii): it has global applicability or it has a more limited

scope
o
Dont think 1129(b)(2)(A)(iii) has a single plain meaning
o
Indubitable equivalence depends on amount of creditors lien and current value of the secured asset

For oversecured claims, indubitable equivalent = face value of claim

For undersecured claims, indubitable equivalent = amt of allowed secured claim/current value of

asset
o
Allowing plan to be confirmed under 1129(b)(2)(A)(iii) w/o meeting requirements of (i) or (ii) would
render those sections superfluous

Can only use mkt valuation (ie auction) to determine current value of asset being sold
free & clear of liens if creditor is allowed to credit bid under 363(k), 1129(b)(2)(A)(ii)
o
If secured creditors feel auction undervalues asset, they have right to credit bid to get asset, which can
later be sold
o
Credit bidding promises creditors that lien wont be extinguished for less than face value w/o their consent

APR & Participation of Old Equity - 1129(b)(2)(B)

APR - higher priority claimants/interest holders have to get paid in full b/f any jr interest/claims
can receive anything unless class waives APR by voting to approve plan

Typically means that equity needs to get unsecureds to approve plan, otherwise theyll
receive nothing
1129(b)(2)(B) - absolute priority rule says, if plan is being crammed down, equity holders cant
get anything if dissenting class of unsecureds arent being paid in full on their claims

Right to run reorg'd biz is prop, thus equity holders cant get that right in cram
down if unsecureds not being paid in full

Rule exists so that cram down wont redistribute dissenting creditors prop rights to those
w/jr right/interest in debtor

68

Old equity only given chance to infuse new equity on account of its interest; cant use

wordplay to get around 1129(b)

Gifting rule - secured creditor takes part of distribution it was entitled to & give it to
shareholders & therefore theyre getting a gift out of secured creditors distribution
o
Unsecured creditors say this violates absolute priority rule by skipping him & giving something to equity
holders when unsecured creditors arent being paid in full
o
SPM (1st cir) approved plan like this b/c claims/interests jr to unsecured creditors not getting anything
from the plan, its just a gift from secured creditors
o
Armstrong (3rd cir) didnt allow secured creditors to gift from their distribution to equity holders when
unsecured creditors werent being paid in full b/c it violated absolute priority rule
o
Gifting done to avoid a confirmation objection/delay b/c equity holders (debtor) ones who have
exclusivity to propose plan

Gets shareholders to support plan & avoid their objection

o
Doing such a deal under the table, outside the plan, would likely violate requirements of good faith &
disclosure

DBSD - Gifting under a plan that gives jr claims/interests prop when sr unsecured
not being paid in full violates APR
o
Gifting doctrine cant work around APR b/c 1129(b)(2)(B) applies to ANY prop & who receives & retains
the prop under the plan & applies regardless of whether distribution couldve been made outside the plan
o
when law requires payment in full b/f something can happen, but it happens anyways, thats direct
financial injury
For Sprint to have standing, dont need to decide if theyd get nothing if gift was disallowed, just

need to say that Sprint has a reasonable chance of changing its position

Standing doesnt depend on merits; doesnt matter Sprints claim might be worthless
o
1129(b)(2)(B) - plan not fair & equitable if unsecured not being paid in full & jr claim/interest holder gets
something under plan

Sprint not paid in full on its claim, absolute priority rule violated by giving SH prop of
stock/warrants under the plan

Shares & warrants were received on account of its jr interest; on account of can = in
exchange for
On account of could also = b/c of

SCOTUS - neither future labor, experience & expertise, nor cap contributions w/o benefit of
market valuation could suffice to escape absolute priority rule; read APR strictly
b/c SH retain substantial control over chpt 11 process, theres opportunity for them to enrich

themselves

Armstrong World Industries - equity would get warrants under plan even if gen
unsecureds rejected it
o
Holding - APR violated b/c plan gives equity holders warrants when objecting unsecureds not being
paid in full
o
Under plan, unsecured class would receive & automatically transfer warrants to equity interests in event
unsecureds rejected plan, this violates APR

Equity interests received warrants on account of their equity interests, thus violated APR
o
APR doesnt only apply to objecting intervening classes; if any sr unsecured class is impaired & objects,
jr classes cant receive anything under the plan b/c sr unsecureds not being paid in full
Clear transfer of warrants was designed to ensure equity interests received the warrants w/or w/o

unsecureds consent
o
LaSalle - on account of = b/c of or a causal relationship b/w holding prior claim/interest &
receiving/retaining prop

Warrants valued at 3-4x value of intercompany claims allegedly being given up equity holders &
there was no explanation for this, leading ct to conclude transfer was on account of equity interests
Investor financing - debtor can seek injection of new equity from old equity as a means to
finance reorg; in appropriate circumstances, old equity can get new equity by providing financing despite APR in cramdown

Some cts dont allow this b/c they say old equity is getting new equity on account of
their old interests, violating APR

Creditors think old equity buying biz at bargain price, paying them pennies on the
dollar, and getting value in reorg biz

In many cases, if old equity is shut out reorg will fail, allowing creditors to liquidate biz
(sometimes appealing)

69

Bank of America v. 203 North LaSalle

Facts - real estate pship filed for chpt 11 & plan called for former ps to contribute new
capital in exchange for entire ownership of reorg'd pship
o
Plan wouldnt pay BoA entire claim on outstanding loan; BoA objected to plan (sole member of its class);
bkcy ct confirmed plan under cram down & dist & ct of app confirmed
Said on account of in 1129(b)(2)(B)(ii) allowed recognition of new corollary value under which

debtors old equity holders who retained prop interest in reorg'd debtor didnt do so on account of prior equitable
ownership but instead based on contribution of new capital that was reasonably equivalent to props value & was
necessary for successful reorg

Holding - dont decide whether there is a new corollary value exception; Pships plan
cant be confirmed b/c old equity holders were disqualified from participating in any new value trans under 1129(b)(2)(B)(ii)

Rationale - 1129(b)(2)(B)(ii) recognized that causal relationship b/w holding prior

claim/interest & receiving/retaining prop was what activated APR & on account of meant b/c of; Ps exclusive opportunity to
obtain equity in reorg'd debtor should be treated as prop in its own right
o
Exclusiveness of the opportunity w/its protection against mkt scrutiny of purchase price rendered ps right
a prop interest extended on account of the old equity position

Plans providing jr interest holders exclusive opportunities free from competition & w/o benefits
of mkt valuation fall w/in 1129(b)(2)(B)(ii) APR
o
Under plan granting old equity exclusive right, any determination that purchase price was top dollar
would be made by bkcy judge, but best way to determine value is exposure to the mkt
BC disfavors decisions of value untested by competitive choice when some form of mkt

valuation may be available to test equity interest holders proposed contribution

Stevens Dissent - old equity holder doesnt get prop interest in reorg'd debtor on
account of old equity interest when it contributes adequate new value
o
If jr claimant/interest holder contributes cap of value =/greater than interest in reorg'd debtor, participation
is based on fair price being paid & not on account of claimants old claim/equity
PWS Holding - release of claims didnt violate APR; examiner had evaluated claims &
decided they had little value

Rationale - on account of = b/c of, not in satisfaction of; causal connection b/w interest
& receiving/retaining prop will trigger APR

Subordinated noteholders rights under 510(a) dont arise until sr indebtedness is paid in
full, which hasnt happened under the plan

Limited release in plan doesnt come w/in language of 524(e) (discharge of debt of
debtor doesnt affect liability of any other entity on the debt)
Peculiarity of cases that object to old equity becoming new equity: (1) often SARE cases & (2)
secured creditor objects so it can get prop through liquidation (credit bidding) but objects using unsecured portion of its claim

Generally few unsecureds who will be affected & secured creditor typically takes
control of prop after opposing plan
Many cases dealing w/impairment, classifications, cramdown, etc. deal w/SAREs

Go far in litigation b/c theres often just a single large creditor who opposes, almost no
gen unsecured, no continuing biz relationships, and a lot of money/prop at stake

Opinions about SAREs create rules that apply to all other chpt 11 cases
Negotiated consent essence of chpt 11 scheme

Exclusive right to propose plan & possibility of cramdown rep leverage that debtor has
over creditors, but agreement w/creditors essential to any plan of reorg
1126 - key to retaining ownership in reorg'd debtor; if plan isnt crammed down, APR doesnt
come into play

70

Equitable Subordination - Post Confirmation Issues

Classification & Treatment - how is plan going to treat & eventually pay allowed claims
Equitable subordination 510

(a) - A subordination agreement is enforceable in a case under this title to the same
extent that such agreement is enforceable under applicable nonbkcy law
o
Ktual subordination; often in large corps where there are different lvls of debt
o
Sr lenders want K where jr lenders recognize that theyre jr & wont take certain action
o
Asks bkcy ct to recognize the Ktual subordination

(b) - For the purpose of distribution under this title, a claim arising from rescission of a
purchase or sale of a security of the debtor or of an affiliate of the debtor, for damages arising from the purchase or sale of such
a security, or for reimbursement or contribution allowed under section 502 on account of such a claim, shall be subordinated to
all claims or interests that are senior to or equal the claim or interest represented by such security, except that if such security is
common stock, such claim has the same priority as common stock.

(c) - equitable subordination: Notwithstanding subsections (a) and (b) of this section,
after notice and a hearing, the ct may-o
(1) under principles of equitable subordination, subordinate for purposes of distribution all or part of an
allowed claim to all or part of another allowed claim or all or part of an allowed interest to all or part of another allowed
interest; or

(2) order that any lien securing such a subordinated claim be transferred to the estate.
In re Mobile Steel test for equitable subordination

Inequitable prong - Claimant must have engaged in inequitable conduct

(1) fraud, illegality, or breach of fiduciary duties; (2) undercapitalization; or (3)

claimants use of the debtor as a mere instrumentality or alter ego
Injury prong - Misconduct must have resulted in injury to the creditors of debtor or conferred an

unfair advantage on the claimant

met where gen creditors are less likely to collect their debts as a result of the alleged
inequitable conduct

If harm is to entire creditor body, trustee doesnt have to identify the injured creditor or
quantify its injury; just have to show creditors were harmed in some concrete manner

Not inconsistent w/BC - reminder to bkcy ct that although its a ct of equity, its not free to adjust
the legally valid claim of an innocent party who asserts the claim in good faith just b/c the ct perceives that the result is
inequitable
Claim should only be subordinated to extent necessary to offset the harm which the debtor or its

creditors suffered as a result of inequitable conduct

No harm no foul; need harm to debtor/creditor to equitably subordinate a claim

US v. CF&I Fabricators - IRS penalty for failing to make ERISA payments wasnt an excise tax w/in meaning of 507(a)(8), thus not
entitled to admin priority

IRS was imposing a fine for CFI's missed ERISA contribution; it wasnt a tax
Bkcy ct shouldnt have subordinated the penalty below other gen unsecured claims

Rationale - look to see if something is actually a tax (acting like a tax), or whether its just called
a tax

The provision at issue imposes penalties; doesnt relate to funding ERISA, just
imposing fee based on failure to timely pay

Subordination improper b/c parties agree claim is allowable on a nonpriority unsecured

basis
Categorical reordering of priorities that takes place at the leg lvl of consideration is beyond the

scope of judicial authority to order equitable subordination under 510(c)

Look to see if theres been improper conduct by the claimant to determine if equitable subordination is warranted; all IRS did
was impose the fine for late payment - CFI Fabricators

Claimant must have done something wrong that harmed creditors to warrant
subordination
In re SI Restructuring, Inc. - subordination of insider loans was inappropriate when TIB didnt show that loans harmed debtor or gen
creditors
Rationale - deepening insolvency of the corp isnt a valid theory of dmgs for gen unsecured to

show they were harmed

Securing Ws guarantees never harmed unsecureds b/c S never defaulted on those

obligations that Ws guaranteed

71

However, even though guarantees never became due, securing them w/Ss assets made those
assets unavailable to secure other sources of financing
Cant subordinate a claim merely b/c claimants were insiders

Youve got to find some type of improper/inequitable conduct that actually harmed
debtor/creditor in order for ct to equitably subordinate the insider's claim

Bkcy ct made no finding that S was undercapitalized/insolvent, such a finding necessary when
dealing w/insider claims

Why, if they had valuable assets, did they need to get loan from insider secured by
valuable prop of corp as opposed to a 3rd party lender, who wouldve accepted similar terms
Look to how corp is capitalized to see if money coming from insiders should be re-characterized

as contributions of equity instead of as a loan

In re Telegroup - claim for a breach of a provision in a stock purchase agreement arises from the purchase of the stock for 510(b) &
must be subordinated

Rationale - cong mandates subordination of these claims to prevent upset shareholders from
recharacterizing their claims to recover equity losses

If claims arise from purchase of stock, then under 510(b), claim is subordinated below
lvl of gen unsecured claims b/c itd have same priority of common stock interests

b/c of risk allocation, investors should generally be subordinated below gen unsecured
claims
Risk of biz insolvency from whatever cause

Absolute priority rule allocates risk to shareholders; stockholders cant be paid b/f gen
unsecureds get paid in full

No reason to reallocate risk

Risk of illegality in securities issuance

Should be born by shareholders b/c stockholder, not the creditor, is the one being
offered the stock

Shareholder claims alleging illegality in issuance of stock should be subordinated to

claims of gen unsecureds

Wont allow disappointed equity investors to jump up a lvl to make a claim

Cong intended 510(b) to prevent disaffected equity investors from recovering their
investment losses at an equal lvl to gen unsecureds recovering on their claims
Claim wouldnt exist but for shareholders purchase of stock

502(d) - Disallowance - the ct shall disallow any claim of any entity from which property is recoverable under section 542, 543, 550,
or 553 of this title or that is a transferee of a transfer avoidable under section 522(f), 522(h), 544, 545, 547, 548, 549, or 724(a) of this
title, unless such entity or transferee has paid the amount, or turned over any such property, for which such entity or transferee
is liable under section 522(i), 542, 543, 550, or 553 of this title.

502(d) - twin aims: (1) Assure equality in distribution of the assets of BE & (2) Have coercive
effect of insuring compliance w/judicial orders

502(d) wasnt intended to punish, but to give creditors an option to keep their transfers
or to surrender their transfers & their advantages & share equally w/other creditors
In re Enron - equitable subordination & disallowance are both personal disabilities of the claimant; they dont inhere in the claim
Disallowance/equitable subordination determinations made based on the conduct of the

claimant, not on the claim itself

Unless there was a pure assignment (as opposed to sale of claim), the claim in the hands
of the transferee isnt subject ot ES or disallowance based solely on conduct of transferor

Rationale - if it were an assigned claim, assignee stands in shoes of assignor & would be subject
to all equities against assignor; assignee takes claim w/whatever limitations it had in hands of assignor

Assignor cant give more than he has, whereas a buyer can obtain more than the
transferor had in certain circumstances
Buyer doesnt stand in the shoes of the seller

Equitable subordination a drastic & unusual remedy & shouldnt be used to penalize,
but only to the extent necessary to offset specific harm that the creditors suffered on account of inequitable conduct
Equitable subordination & disallowance arent fixed as of the petition date - Enron

Equitable subordination

Ct action is prereq to application of 510(c)

ES is permissive, not mandatory; its w/in discretion of bkcy ct, which may or may not
equitably subordinate claims based on facts of case

72

ES can be based on post petition inequitable conduct (cant be ascertained/fixed as of

petition date)

b/c ES not available to creditors w/no injury, creditors who acquire claims post petition
& after alleged misconduct havent suffered any harm

Disallowance

Ct action is necessary to disallow a claim under 502(d)

Disallowance of a claim is contingent on refusal/failure to return the avoidable transfer

by the recipient of avoidable transfer

Disallowance can be applied based solely on post petition receipt of an avoidable

transfer (cant be determined as of petition date)

If its an assignment, can never be a holder in due course if you received

assignment post petition

Cts focus on claimant, not the claim, for ES determinations

ES appropriate when the subordinated CLAIMANT has engaged in inequitable conduct that

injures competing claimants

Purchasers not subject to personal disabilities of the sellers

Doesnt apply to bad faith purchasers; those w/actual notice of inequitable conduct of seller
may be subject to ES based on their own misconduct
10 11 USC 546 - 2 yr SoL from petition date to file a disallowance; doesnt also apply to equitable subordination

73

Discharge & Post Confirmation Injunction

11 Post-confirmation disputes:

Adversary complaint: avoid and recover transfer.

Those are filed post effective date. Series of litigation in BC all tied back to what the
plan provides

The plan should have provisions that deal w/avoidance actions, etc

Until we close the case, by filling an application for a final decree, and the judge signs
and order closing the case, the case is still open and the parties still incur fees and obligations.
12 Bkcy Ct J/d to hear post confirmation disputes: J/d 157(a): Arises under Title 11; Arises in a Title 11; or Is related to a case under
Title 11
Once the bkcy ct confirms a plan of reorg, the debtor may go about its biz without further

supervision or approval

The firm also is without the protection of the bankruptcy court; It may not come
running to the bkcy judge every time something unpleasant happens.

Relation of the dispute to the estate, not the relation of the party.

Section 1334's reference to cases related to BC is primarily intended to encompass tort,

contract, and other legal claims by and against the debtor, claims that were it not for bkcy, would be ordinary, stand-alone
lawsuits between the debtor and others but that section 1334(b) allows to be forced into bkcy ct. Once they are
shoehorned into bkcy, they can then be stayed by Section 105.
Related to J/d Test: Related to the BC if the outcome of that proceeding could conceivably

have any effect on the estate being administered in bkcy.OR

If the outcome could alter the debtor's rights, liabilities, options, or freedom of action
and in any way impacts the handling and administration of the bkcy estate.

Distinctions:

Related to exists: when the subject of the third party dispute is property of the estate,
or bc the dispute over the asset would have an effect on the estate;

Related to does not exist: when the asset in question is not property of the estate or has
no effect.
Fair and Equitable: While the BC has j/d to determine whether a settlement is fair and

equitable, ignoring the TPs rights contravenes the basic notion of fairness. But, cannot issue an injunction that does not bear on
the duty to preserve the estate and protect creditors.
13 Section 524(a)(1) - provides that a discharge granted to a debtor voids any judgment obtained at any time w/respect to any debt
discharged under the above mentioned sections of the Code to the extent that the judgment is a determination of the personal liability
of the debtor

It further specifies that the judgments are voided whether or not the debtor has waived discharge
of the particular debt involved.
The discharge of the debtor does not affect the discharge of another TP liability. Ex: guarantor

would still have liability.

524(g): Trusts: this is a mass tort provision that funnels all of the claims into a trust, etc.
Section 524: discharge of a debt of the debtor does not affect the liability of any other entity on,

or the prop of any other entity for, such debt.

14 Section 1141(c): provides that except as otherwise provided in the plan or in the order confirming the plan, after confirmation of the
plan, the property dealt w/by the plan is free and clear of all claims and interest of creditors, equity security holders, and of general
partners in the debtor.

Effect: A confirmed plan acts as a contract and binds all parties. It is outcome determine,
unless the plan says otherwise, all property provided in the plan is free and clear of liens.
Lien-Stripping: Unless you can point to some provision that preserves the lien, the lien

disappears.

Practical Pointers:

Lienholder should insert provision that would preserve their rights to challenge the lien
or else it is stripped off.
15 Section 1142: Implementing the Plan
Zale Corporation: [5th Circuit] - bkcy ct lacked j/d to enjoin tort claims; lacked power under

105 to permanently enjoin claims; failed to conduct adversary proceeding as required by 7001

Settlement agreement contains permanent injunction

Subject Matter J/d: related to j/d conceivably have effect on estate (very low
standard)

Related to j/d under 28 1334 & 157(a): Any effect on the estate being administered.

74

Core: Only in context of Bkcy proceeding; applies during pendency of case

Related to exists: when the subject of the third party dispute is property of the estate,
or bc the dispute over the asset would have an effect on the estate; could conceivably have

Tort claim not related to b/c only reason in this litigation is indemnification clause; Debtors
behavior not issue in tort claims

Claims not property of the estate, and absent indemnification, there would be no j/d
over the tort claims
indemnification clause was used to satisfy a substantive goal of providing j/d

Contract claims are related b/c contract disputes have effect on estate; Therefore, related to
j/d established

dispute over the first insurance policy has an effect on the estate bc the disclosure
statement contemplated that some proceeds from CIGNA would flow to the estate

No power under 105 to enter permanent injunction that improperly discharged potential
debt of non-debtor
Injunction limited NUFIC K claims in violation of 524, which prohibits discharge of debts of

nondebtors

General Rule is 524(e) - Discharge of debtor does not affect discharge of any 3rd party liability

If debtor discharged on debt, guarantor still has liability

Now only deals w/mass tort, asbestos cases

Bkcy ct has power to temporarily enjoin the K claims b/c the settlement would provide

substantial consideration to the BE and constitutes a key provision of the plan.

Motion for temporary injunction is an adversary proceeding & requires a

complaint thats served on each affected party under BR 7001

No waiver of Right to Adversary Proceeding bc the BC preventing them from litigating the
issue./No evidence allowed, etc.

Limits to what you can put in your plan

Remedy, vacate entire settlement

16 Ahern Enterprises, Inc.,
Facts: Elixir appeals the DC's judgment in favor of mortgage holder City Bank & Trust, voiding

lien during the bkcy proceeding. Jr. lien in state law. The plan does not preserve the junior lienholder's lien. Post-confirmation is
conversion.

Junior Lienholder: The lienholder argued that the plan was confirmed but not consummated.
The ct held that the Code does not say this.

Converted to Chapter 7 on basis of lack of feasibility 1129(a)(11).

Holding: Under Section 1141(c), the judgment lien was voided.

Four Conditions to void a lien under section 1141(c):

The plan must be confirmed;

The property that is subject to the lien must be dealt w/by the plan;

The lien holder must participate in the reorg; and

The plan must not preserve the lien.

17 Craig's Stores of Texas - bkcy ct doesnt have j/d post confirmation unless you can show a nexus b/w plan & dispute
After a debtor's reorg plan has been confirmed, the debtor's estate, and thus bkcy j/d, ceases to

exist, other than for matters pertaining to the implementation or execution of the plan

post-confirmation dispute at issue in this appeal has nothing to do with any obligation created by
the debtor's reorg plan
Facts: Ch 11 debtor brought adversary proceeding to recover for collection agent's alleged

breach of contract. Adversary proceedings between the debtor and the bank arising post-confirmation.

Judge Bohm: if you have a plan confirmed and file a motion;

Post-confirmation j/d per Craig's Stores: "Very Specific Hook" Motion filed w/the
bkcy ct: must show that you have subject-matter j/d in the motion and how it ties into effectuating the plan.
18 U.S. Brass Corporation - if you are appealing plan confirmation, you have heavy burden of pursuing appeal & stay
Facts: confirmed plan of reorg provided that certain claims against the Ch. 11 debtor and its

nondebtor affiliates would be resolved in a ct of competent j/d.

w/in 13 days asking for a limited stay, the bkcy ct holds a hearing on the stay in May.

The plan is confirmed, seek a stay on March 6, the ct did not hold a hearing until May.

75

Supporters of the plan, who have actual notice of the stay, they are intending to implement the
plan in order to prevent the j/d. Filed a stay but did not attempt to file emergency papers, etc. between the lawyer
not advocating, and the cts just saying it is moot.

Holding/Mootness: This issue is moot bc the plan has been confirmed and effectuated.
Practical Effect: if you are appealing plan confirmation, you have the heavy burden of pursuing

the appeal and stay

W/in two weeks they implemented the plan; although this is aggressive action, this is
what is needed in order to prevent the appeal

Can continue w/actions to consummate the plan, can do so even if there is a strong chance of
mootness.
19 Enron - Agreed w/Worldcom case, where suits were preempted by federal securities law
After plan confirmed, Ps filing suit. State ct cases removed and dismissed in district ct; Ps

appealed saying district ct erred in dismissing claim.

Ct considered whether district ct had j/d and whether claims preempted by federal securities law
Argument that these claims were limited to state ct is incorrect

20 Can you change the bkcy ct's j/d in the plan? No. This would go against the 5th Circuit's case precedent.

How does Stern affect this? **Ripley: continual restriction post-confirmation j/d of bkcy cts.
Consent j/d: 5th Circuit Opinion & Magistrate Cts:

Ripley: Roberts' discussion of consent. Consent was discussed twice in the opinion.

Is it just an authority issue? Can they enter proposed findings of fact and conclusions of law.

76

Nonjudicial Collection Methods

Leveraging - debtor-creditor payment process constant balancing
Debtor - makes decisions about the costs/benefits of paying its bills

o
Decide when to pay, who to pay first, and whether to pay at all

Creditor - when not paid, decide on how to collect

o
Not all debts are worth suing over b/c of the costs involved
o
For nonjudicial alternatives (ie phoning debtor to ask him to pay), creditor must weigh cost of time
expended & possible loss of customer goodwill against increase in likelihood of repayment
o
Try to determine how, at the lowest cost, to make it better for debtors (ie less costly) to pay the money
owed
o
Harassing phone calls/local dead beat ads could be leverage to make customer pay
Debtors can respond by not listing their phone number, moving, not answering calls, etc.

o
A lot of leverage analysis takes place when loan is incurred

Take out security interest on equipment/property necessary for debtor's biz

Leverage factors outside legal reg

o
Desire of debtor to repay loan made by fam member
o
Desire to pay a dr who might not treat debtor in future if past bills arent paid
Most money owed is paid w/o resorting to legal remedies; create incentives for voluntary settlement
Creditors dont like to resort to cts b/c they come w/extra/unnecessary costs

Also risks creditors will recover nothing in ct; may have ct say they dont have a valid debt
o
If debtor is judgment proof, creditor cant recover anything through cts; ie no assets, or theyre exempt, or
theyre encumbered
Nothing prevents judgment proof debtor from making voluntary payments from otherwise

exempt assets

Also, judgment proof debtor can borrow funds/get consolidation loan to pay debts
Tension in identifying who qualifies as debtor/creditor for purposes of applying debt collection laws

Most people are both debtors and creditors, but debt collection laws are geared towards addressing stereotypical
debtor/creditor
o
Rules might have unintended/unanticipated consequences for atypical debtor/creditor
Indirect Leverage in Legal System

Creditors like to find someone to help them collect, instead of suing debtor, to reduce costs
o
Some states have laws that give leverage to creditors (ie can shut down debtors biz) if certain debts arent
paid
o
Ex's who dont pay child support/alimony can be put in jail for nonpayment
o
Banks that havent been repaid can write off the debt and report it as "income" of the debtor to the IRS
Fair Credit Reporting Act
Credit Reporting - Type of leverage creditors can use to encourage debtors to pay

Negative scores on credit ratings affect the ability of debtors to get future loans/credit
Score says how credit worthy a potential debtor is expected to be

o
Determine whether loan is given/what interest rate the loan will be at

About 80% of reports have something wrong on them & 25% have errors that would change type of loan a person
can get
Fair Credit Reporting Act (FCRA) - Allows people to dispute information on their credit report

Credit agency has to reinvestigate & determine if debt was true

o
If it was wrong, agency takes it off credit report
o
If they determine it was a valid debt, person can write something to explain why its not a legitimate debt
(statement of dispute, limited to 100 words)
Attached to credit report; lenders dont have to give any weight to statement of dispute

if reporting agency knows info is wrong & doesnt take it off the credit report, person can sue for actual dmgs
o
Also provision that allows person to sue for neg noncompliance w/FCRA & that allows FTC to enforce
FCRA
o
Gives consumer leverage over credit rating agency, but likely negligible b/c of small measure of statutory
dmgs
Credit Info Process

Creditors can threaten to cut off debtor from future credit through negative records in the debtor's credit report

77

Can refuse future credit/credit extensions until past bills are paid & have stronger leverage if bad credit
reports make it harder for debtor to find credit elsewhere
Credit reporting services give creditors ability to inform other creditors of debtor's nonpayment, thus giving them
leverage to cut off debtor from other lines of credit
o
Credit reporting services provide info to creditors at low cost, enabling them to identify debtors unlikely
to repay obligations/liabilities
o
Possibility of a bad credit score encourages debtor to repay creditors
Fair Credit Reporting Act regs credit reporting services to prevent abuse & alleviate fears of misinfo on
credit reports
o
Two themes of statute: (1) giving debtor access to credit report info & (2) prescribing procedures to
ensure accuracy of credit info
o
Gives leverage to debtor when disputing accuracy of credit report; compels procedures credit reporting
agency must follow when theres a dispute
Most creditors only deal directly w/credit reporting services after theyve been denied credit
o
Most frequent dispute is over accuracy of info in a debtor's credit report
Ie: debts listed werent owed, amounts were wrong, payments werent listed, etc.

Credit report initially only has creditors side of the story

1681i. Procedure in case of disputed accuracy
(a) Reinvestigations of disputed information
o
(1) Reinvestigation required.-(A) In general.--Subject to subsection (f) of this section, if the completeness or accuracy of any

item of information contained in a consumer's file at a consumer reporting agency is disputed by the consumer and
the consumer notifies the agency directly, or indirectly through a reseller, of such dispute, the agency shall, free of
charge, conduct a reasonable reinvestigation to determine whether the disputed information is inaccurate and record
the current status of the disputed information, or delete the item from the file in accordance with paragraph (5),
before the end of the 30-day period beginning on the date on which the agency receives the notice of the dispute
from the consumer or reseller.
o
(5) Treatment of inaccurate or unverifiable information.-
(A) In general.--If, after any reinvestigation under paragraph (1) of any information disputed by
a consumer, an item of the information is found to be inaccurate or incomplete or cannot be verified, the consumer
reporting agency shall-
(i) promptly delete that item of information from the file of the consumer, or modify
that item of information, as appropriate, based on the results of the reinvestigation; and

(ii) promptly notify the furnisher of that information that the information has been
modified or deleted from the file of the consumer.
(B) Requirements relating to reinsertion of previously deleted material.-

(i) Certification of accuracy of information.--If any information is deleted from a

consumer's file pursuant to subparagraph (A), the information may not be reinserted in the file by the
consumer reporting agency unless the person who furnishes the information certifies that the information is
complete and accurate.
(b) Statement of dispute - If the reinvestigation does not resolve the dispute, the consumer may file a brief
statement setting forth the nature of the dispute. The consumer reporting agency may limit such statements to not more than one
hundred words if it provides the consumer with assistance in writing a clear summary of the dispute.
1681m. Requirements on users of consumer reports
(a) Duties of users taking adverse actions on basis of information contained in consumer reports. If any
person takes any adverse action with respect to any consumer that is based in whole or in part on any information contained in a
consumer report, the person shall-o
(1) provide oral, written, or electronic notice of the adverse action to the consumer;
o
(2) provide to the consumer written or electronic disclosure-(A) of a numerical credit score as defined in section 1681g(f)(2)(A) of this title used by such

person in taking any adverse action based in whole or in part on any information in a consumer report; and

(B) of the information set forth in subparagraphs (B) through (E) of section 1681g(f)(1) of this
title;
o
(3) provide to the consumer orally, in writing, or electronically-(A) the name, address, and telephone number of the consumer reporting agency (including a toll
free telephone number established by the agency if the agency compiles and maintains files on consumers on a
nationwide basis) that furnished the report to the person; and

78

(B) a statement that the consumer reporting agency did not make the decision to take the adverse
action and is unable to provide the consumer the specific reasons why the adverse action was taken; and
1681n. Civil liability for willful noncompliance
(a) In general - Any person who willfully fails to comply with any requirement imposed under this subchapter
with respect to any consumer is liable to that consumer in an amount equal to the sum of-o
(1)(A) any actual damages sustained by the consumer as a result of the failure or damages of not less than
$100 and not more than $1,000; or
(B) in the case of liability of a natural person for obtaining a consumer report under false

pretenses or knowingly without a permissible purpose, actual damages sustained by the consumer as a result of the
failure or $1,000, whichever is greater;
o
(2) such amount of punitive damages as the court may allow; and
o
(3) in the case of any successful action to enforce any liability under this section, the costs of the action
together with reasonable attorney's fees as determined by the court.
(b) Civil liability for knowing noncompliance - Any person who obtains a consumer report from a consumer
reporting agency under false pretenses or knowingly without a permissible purpose shall be liable to the consumer reporting
agency for actual damages sustained by the consumer reporting agency or $1,000, whichever is greater.
(c) Attorney's fees - Upon a finding by the court that an unsuccessful pleading, motion, or other paper filed in
connection with an action under this section was filed in bad faith or for purposes of harassment, the court shall award to the
prevailing party attorney's fees reasonable in relation to the work expended in responding to the pleading, motion, or other paper.
1681o. Civil liability for negligent noncompliance
(a) In general - Any person who is negligent in failing to comply with any requirement imposed under this
subchapter with respect to any consumer is liable to that consumer in an amount equal to the sum of-o
(1) any actual damages sustained by the consumer as a result of the failure; and
o
(2) in the case of any successful action to enforce any liability under this section, the costs of the action
together with reasonable attorney's fees as determined by the court.
(b) Attorney's fees - On a finding by the court that an unsuccessful pleading, motion, or other paper filed in
connection with an action under this section was filed in bad faith or for purposes of harassment, the court shall award to the
prevailing party attorney's fees reasonable in relation to the work expended in responding to the pleading, motion, or other paper.
1681s. Administrative enforcement - (a) Enforcement by Federal Trade Commission
(1) In general - The Federal Trade Commission shall be authorized to enforce compliance with the requirements
imposed by this subchapter under the Federal Trade Commission Act (15 U.S.C. 41 et seq.), with respect to consumer reporting
agencies and all other persons subject thereto, except to the extent that enforcement of the requirements imposed under this
subchapter is specifically committed to some other Government agency under any of subparagraphs (A) through (G) of
subsection (b)(1), and subject to subtitle B of the Consumer Financial Protection Act of 2010, subsection (b)1. For the purpose of
the exercise by the Federal Trade Commission of its functions and powers under the Federal Trade Commission Act, a violation
of any requirement or prohibition imposed under this subchapter shall constitute an unfair or deceptive act or practice in
commerce, in violation of section 5(a) of the Federal Trade Commission Act (15 U.S.C. 45(a)), and shall be subject to
enforcement by the Federal Trade Commission under section 5(b) of that Act with respect to any consumer reporting agency or
person that is subject to enforcement by the Federal Trade Commission pursuant to this subsection, irrespective of whether that
person is engaged in commerce or meets any other jurisdictional tests under the Federal Trade Commission Act.

Restrictions on Nonjudicial Collection

Usury Laws - limits interest rates creditors can charge; if they charge more, the loan would be deemed uncollectable

Deregulation period made lower usury limits impractical - states raised usury rates or made carve outs for certain
industries (ie pay day lending)
Many loans now have language that say if rate is higher than allowed, it automatically reverts to max allowable

rate

Primarily state law restriction

Marquette National Bank v. First Omaha Service Corp - SCOTUS said that under fed banking laws, the state of

the customer's location was not relevant

o
Fed chartered banks could charge interest rates that were legal in the BANKS HOME STATE
o
Effectively deregulated interest rates b/c most banks moved to South Dakota which had no usury law

After Marquette, DE & SD dereg'd interest & other banking functions

o
Banks/financing depts of retailers located themselves in interest friendly states & exported their interest
rates to other states
b/c they were losing biz, other states weakened interest rate protection laws

Would manipulate usury laws so that it appeared they had a low max rate, but
effectively had high max rate

79

Fed Statutory Controls on Nonjudicial Collection - Fair Debt Collection Practices Act
FDCPA reps effort to acknowledge difficulties w/debt collection & to fashion a fed remedy directed specifically toward
debt collection abuses
Way for debtors to avoid unfair/harassing/abusive practices to encourage them to pay debts
Heinz - SCOTUS case that said attnys can be debt collectors under FDCPA
Holding - attnys who regularly engage in consumer debt collection activity fall w/in definition of debt

collectors, even when that activity consists of litigation

Rationale - plain meaning of definition of debt collector includes attnys using judicial process to try to collect
debts for clients
o
Fear that threats of litigation (1692e(5) - cant make threats to take action which cant legally be taken)
could lead to FDCPA violations against attnys are unfounded
Debt collectors not liable if they show by preponderance of evidence that violation was

unintentional & resulted from a bona fide error notwithstading the maintenance of procedures reasonably adapt to
avoid such errors - 1692k(c)

Also, bringing lawsuits that eventually lose not taking action which cant legally be taken
o
FDCPA allows debt collectors to comm w/debtors, even after they refuse to pay, if its to notify the debtor
that the debt collector/creditor may invoke or intends to invoke a specific remedy
Shows that its important to understand how provisions of FDCPA apply b/c could be involved in debt collection

unknowingly
Only applies when collecting a debt owed to another
Have to send validation notice b/f trying to collect debt that gives debtor chance to challenge the debt

Provision of FDCPA that is violated most often

Encourages creditors/debt collectors to not sue b/c they might inadvertently violate the act & can be sued for wrongful debt
collection
Young v. Citicorp - collection letter on attnys stationary & bearing her name sent from her office at Citicorp werent from
the attny but from Citicorp using the name of another
Citicorp & attny violated FDCPA b/c of intent to mislead debtor into believing matter had been referred to an attny

for collection
Thomas v. Simpson & Cybak - when firms 1st comm w/debtor was a summons & complaint in suit, firm was obligated as a
debt collector to furnish a debt validation notice to advise consumer of certain rights
Camara v. Fleury - firms whos debt collection activities were less than 5% of its cases wasnt a debt collector
803 Definitions - As used in this subchapter-(1) The term Commission means the Federal Trade Commission.

(2) The term communication means the conveying of information regarding a debt directly or indirectly to any
person through any medium.
(3) The term consumer means any natural person obligated or allegedly obligated to pay any debt.

(4) The term creditor means any person who offers or extends credit creating a debt or to whom a debt is owed,
but such term does not include any person to the extent that he receives an assignment or transfer of a debt in default solely for
the purpose of facilitating collection of such debt for another.
(5) The term debt means any obligation or alleged obligation of a consumer to pay money arising out of a

transaction in which the money, property, insurance, or services which are the subject of the transaction are primarily for personal,
family, or household purposes, whether or not such obligation has been reduced to judgment.

(6) The term debt collector means any person who uses any instrumentality of interstate commerce or the mails
in any business the principal purpose of which is the collection of any debts, or who regularly collects or attempts to collect,
directly or indirectly, debts owed or due or asserted to be owed or due another. Notwithstanding the exclusion provided by
clause (F) of the last sentence of this paragraph, the term includes any creditor who, in the process of collecting his own debts,
uses any name other than his own which would indicate that a third person is collecting or attempting to collect such debts. For
the purpose of section 1692f(6) of this title, such term also includes any person who uses any instrumentality of interstate
commerce or the mails in any business the principal purpose of which is the enforcement of security interests. The term does not
include-o
(A) any officer or employee of a creditor while, in the name of the creditor, collecting debts for such
creditor;
o
(B) any person while acting as a debt collector for another person, both of whom are related by common
ownership or affiliated by corporate control, if the person acting as a debt collector does so only for persons to whom it is
so related or affiliated and if the principal business of such person is not the collection of debts;
o
(C) any officer or employee of the United States or any State to the extent that collecting or attempting to
collect any debt is in the performance of his official duties;

80

(D) any person while serving or attempting to serve legal process on any other person in connection with
the judicial enforcement of any debt;
o
(E) any nonprofit organization which, at the request of consumers, performs bona fide consumer credit
counseling and assists consumers in the liquidation of their debts by receiving payments from such consumers and
distributing such amounts to creditors; and
o
(F) any person collecting or attempting to collect any debt owed or due or asserted to be owed or due
another to the extent such activity (i) is incidental to a bona fide fiduciary obligation or a bona fide escrow arrangement;
(ii) concerns a debt which was originated by such person; (iii) concerns a debt which was not in default at the time it was
obtained by such person; or (iv) concerns a debt obtained by such person as a secured party in a commercial credit
transaction involving the creditor.
(7) The term location information means a consumer's place of abode and his telephone number at such place, or
his place of employment.
(8) The term State means any State, territory, or possession of the United States, the District of Columbia, the
Commonwealth of Puerto Rico, or any political subdivision of any of the foregoing.
804 Acquisition of location information
Any debt collector communicating with any person other than the consumer for the purpose of acquiring location
information about the consumer shall-o
(1) identify himself, state that he is confirming or correcting location information concerning the
consumer, and, only if expressly requested, identify his employer;
o
(2) not state that such consumer owes any debt;
o
(3) not communicate with any such person more than once unless requested to do so by such person or
unless the debt collector reasonably believes that the earlier response of such person is erroneous or incomplete and that
such person now has correct or complete location information;
o
(4) not communicate by post card;
o
(5) not use any language or symbol on any envelope or in the contents of any communication effected by
the mails or telegram that indicates that the debt collector is in the debt collection business or that the communication
relates to the collection of a debt; and
o
(6) after the debt collector knows the consumer is represented by an attorney with regard to the subject
debt and has knowledge of, or can readily ascertain, such attorney's name and address, not communicate with any person
other than that attorney, unless the attorney fails to respond within a reasonable period of time to communication from the
debt collector.
805 Communication in connection with debt collection
(a) Communication with the consumer generally
o
Without the prior consent of the consumer given directly to the debt collector or the express permission of
a court of competent jurisdiction, a debt collector may not communicate with a consumer in connection with the collection
of any debt-o
(1) at any unusual time or place or a time or place known or which should be known to be inconvenient to
the consumer. In the absence of knowledge of circumstances to the contrary, a debt collector shall assume that the
convenient time for communicating with a consumer is after 8 o'clock antemeridian and before 9 o'clock postmeridian,
local time at the consumer's location;
o
(2) if the debt collector knows the consumer is represented by an attorney with respect to such debt and
has knowledge of, or can readily ascertain, such attorney's name and address, unless the attorney fails to respond within a
reasonable period of time to a communication from the debt collector or unless the attorney consents to direct
communication with the consumer; or
o
(3) at the consumer's place of employment if the debt collector knows or has reason to know that the
consumer's employer prohibits the consumer from receiving such communication.
(b) Communication with third parties
o
Except as provided in section 1692b of this title, without the prior consent of the consumer given directly
to the debt collector, or the express permission of a court of competent jurisdiction, or as reasonably necessary to effectuate
a postjudgment judicial remedy, a debt collector may not communicate, in connection with the collection of any debt, with
any person other than the consumer, his attorney, a consumer reporting agency if otherwise permitted by law, the creditor,
the attorney of the creditor, or the attorney of the debt collector.
(c) Ceasing communication
o
If a consumer notifies a debt collector in writing that the consumer refuses to pay a debt or that the
consumer wishes the debt collector to cease further communication with the consumer, the debt collector shall not
communicate further with the consumer with respect to such debt, except-o
(1) to advise the consumer that the debt collector's further efforts are being terminated;
o
(2) to notify the consumer that the debt collector or creditor may invoke specified remedies which are
ordinarily invoked by such debt collector or creditor; or

81

(3) where applicable, to notify the consumer that the debt collector or creditor intends to invoke a
specified remedy.
o
If such notice from the consumer is made by mail, notification shall be complete upon receipt.
(d) Consumer defined
o
For the purpose of this section, the term consumer includes the consumer's spouse, parent (if the
consumer is a minor), guardian, executor, or administrator.
806 Harassment or abuse
A debt collector may not engage in any conduct the natural consequence of which is to harass, oppress, or abuse
any person in connection with the collection of a debt. Without limiting the general application of the foregoing, the following
conduct is a violation of this section:
o
(1) The use or threat of use of violence or other criminal means to harm the physical person, reputation,
or property of any person.
o
(2) The use of obscene or profane language or language the natural consequence of which is to abuse the
hearer or reader.
o
(3) The publication of a list of consumers who allegedly refuse to pay debts, except to a consumer
reporting agency or to persons meeting the requirements of section 1681a(f) or 1681b(3) of this title.
o
(4) The advertisement for sale of any debt to coerce payment of the debt.
o
(5) Causing a telephone to ring or engaging any person in telephone conversation repeatedly or
continuously with intent to annoy, abuse, or harass any person at the called number.
o
(6) Except as provided in section 1692b of this title, the placement of telephone calls without meaningful
disclosure of the caller's identity.
807 False or misleading representations
A debt collector may not use any false, deceptive, or misleading representation or means in connection with the
collection of any debt. Without limiting the general application of the foregoing, the following conduct is a violation of this
section:
o
(1) The false representation or implication that the debt collector is vouched for, bonded by, or affiliated
with the United States or any State, including the use of any badge, uniform, or facsimile thereof.
o
(2) The false representation of-(A) the character, amount, or legal status of any debt; or

(B) any services rendered or compensation which may be lawfully received by any debt
collector for the collection of a debt.
o
(3) The false representation or implication that any individual is an attorney or that any communication is
from an attorney.
o
(4) The representation or implication that nonpayment of any debt will result in the arrest or
imprisonment of any person or the seizure, garnishment, attachment, or sale of any property or wages of any person unless
such action is lawful and the debt collector or creditor intends to take such action.
o
(5) The threat to take any action that cannot legally be taken or that is not intended to be taken.
o
(6) The false representation or implication that a sale, referral, or other transfer of any interest in a debt
shall cause the consumer to-(A) lose any claim or defense to payment of the debt; or

(B) become subject to any practice prohibited by this subchapter.

o
(7) The false representation or implication that the consumer committed any crime or other conduct in
order to disgrace the consumer.
o
(8) Communicating or threatening to communicate to any person credit information which is known or
which should be known to be false, including the failure to communicate that a disputed debt is disputed.
o
(9) The use or distribution of any written communication which simulates or is falsely represented to be a
document authorized, issued, or approved by any court, official, or agency of the United States or any State, or which
creates a false impression as to its source, authorization, or approval.
o
(10) The use of any false representation or deceptive means to collect or attempt to collect any debt or to
obtain information concerning a consumer.
o
(11) The failure to disclose in the initial written communication with the consumer and, in addition, if the
initial communication with the consumer is oral, in that initial oral communication, that the debt collector is attempting to
collect a debt and that any information obtained will be used for that purpose, and the failure to disclose in subsequent
communications that the communication is from a debt collector, except that this paragraph shall not apply to a formal
pleading made in connection with a legal action.
o
(12) The false representation or implication that accounts have been turned over to innocent purchasers
for value.
o
(13) The false representation or implication that documents are legal process.

82

(14) The use of any business, company, or organization name other than the true name of the debt
collector's business, company, or organization.
o
(15) The false representation or implication that documents are not legal process forms or do not require
action by the consumer.
o
(16) The false representation or implication that a debt collector operates or is employed by a consumer
reporting agency as defined by section 1681a(f) of this title.
808 Unfair practices
A debt collector may not use unfair or unconscionable means to collect or attempt to collect any debt. Without
limiting the general application of the foregoing, the following conduct is a violation of this section:
o
(1) The collection of any amount (including any interest, fee, charge, or expense incidental to the
principal obligation) unless such amount is expressly authorized by the agreement creating the debt or permitted by
law.
o
(2) The acceptance by a debt collector from any person of a check or other payment instrument postdated
by more than five days unless such person is notified in writing of the debt collector's intent to deposit such check or
instrument not more than ten nor less than three business days prior to such deposit.
o
(3) The solicitation by a debt collector of any postdated check or other postdated payment instrument for
the purpose of threatening or instituting criminal prosecution.
o
(4) Depositing or threatening to deposit any postdated check or other postdated payment instrument prior
to the date on such check or instrument.
o
(5) Causing charges to be made to any person for communications by concealment of the true purpose of
the communication. Such charges include, but are not limited to, collect telephone calls and telegram fees.
o
(6) Taking or threatening to take any nonjudicial action to effect dispossession or disablement of property
if-
(A) there is no present right to possession of the property claimed as collateral through an
enforceable security interest;
(B) there is no present intention to take possession of the property; or

(C) the property is exempt by law from such dispossession or disablement.

o
(7) Communicating with a consumer regarding a debt by post card.
o
(8) Using any language or symbol, other than the debt collector's address, on any envelope when
communicating with a consumer by use of the mails or by telegram, except that a debt collector may use his business name
if such name does not indicate that he is in the debt collection business.

Collection Remedies
Intro to Judgment Collection

1st step for creditor in judicial collection is establishing in ct that debt is owed
o
After successful suit, judgment gives successful judgment creditor no interest & no priority in any of
debtors prop or income
5 things to emphasize

Lien - limited prop right in specific prop (collateral)

o
If obligor doesnt pay, lien lets creditor go & repossess/foreclose prop w/lien; creditor gets money when
prop is sold
2 types of liens

o
Nonconsensual liens - ie judgment liens (true liens); Some state laws create liens for certain industries;
mechanics have liens in the cars they work on (can keep car until repair bill is paid)
o
Consensual liens - debtors agree to give security interest in their prop to party lending them money so that
if loan isnt repaid, creditor can take prop to satisfy the loan

Generally, consensual liens have to be perfected; Give notice to rest of the world that you have
a lien, often done by recording lien w/appropriate local office
Better to be secured creditor than unsecured creditor - secured creditors have superior right to prop than

unsecured creditors; perfected security superior to unperfected

Execution - process from execution of writ to levy
judgment creditor is unsecured until judgment is executed

Execution of judgment makes claim against debtor liquidated

Execution writ/writ of attachment - orders sheriff to look for non exempt prop of debtor & to seize & sell it to

satisfy the judgment

Levy - Process of seizure by sheriff/marshal & sale of prop & distribution of proceeds to judgment creditor until
judgment is satisfied in full; remaining proceeds go to debtor

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If proceeds from prop are insufficient to pay judgment creditor, sheriff keeps seizing & selling debtors
prop until judgment is satisfied
o
Once sheriff levied specific piece of debtors prop, judgment creditor becomes judicial lien creditor as to
that prop
Turnover Orders - order to compel debtor to turn over prop he possesses; can apply to prop, no matter who possesses it, if
its subject to the debtors control
Debtor can be imprisoned for non compliance

once prop is traced to debtor's control, debtor bears the burden of establishing that prop is no longer in his
possession
Typical turnover order allows for debtor to be questioned under oath to locate prop

o
Once assets are discovered, debtor can be compelled to produce prop or go to jail/face contempt citations
o
Reintroduces threat of jail to debtor-creditor relationship
Writ of sequestration - can be used in specific circumstances to seize & hold specific prop of debtor, often prop in which
creditor has a security interest
Judgment Liens by Recordation - most states have process to get judgment liens on real prop w/o going through
execution process (some states allow this process to also be used for personal prop)

Judgment lien - obtained against real prop by recording a judgment in county land records where deeds of
sale/mortgages are filed
o
Often fastest/cheapest post judgment collection step a creditor can take
Ties up debtors assets & prevents resale b/c no buyer want prop w/title clouded by an earlier judgment lien

Has greatest effect against real prop b/c it cant be moved to another state & buyers are likely to check real prop
records to see what liens/encumbrances are on the real prop
Dormancy & Limitations - two ways for judgments that havent been subject to enforcement efforts for long time

Dormancy - coma like state; judgment still exists but its not longer enforceable w/o being revived
o
Typical period for dormancy is 1 yr
Limitations - statute of limitations to enforce a judgment; once limitations has passed, cant cure judgment like

w/dormancy
o
Would need to file a new lawsuit on the judgment
o
Typical period for limitations is 10 yrs
Debt Collection by Fed Gov - Fed Debt Collection Procedures Act
Generally provides for same procedures for fed gov to collect debt as those provided under state law

Doesnt apply to enforcement of all judgments in fed ct; only to judgments in favor of fed gov
Family Debts - alimony/child support among most difficult debts to collect

Special rules for enforcement/collection of family support payments

o
Can be imprisoned for nonpayment of family obligations, while thats not possible for nonpayment of
other types of debts
o
States exempt some or all wages from garnishment, but provide exception for child support
o
Bkcy Code provides special treatment for family support obligations
Voluntary Liens - loans secured voluntarily by debtors by granting creditors liens in their prop/collateral

Most consensual liens require compliance w/Statute of Frauds (lien has to be in writing)
Once lien granted it has to be filed w/appropriate gov office to give notice to & have effect against future parties

w/security interest in same prop; lien has to be perfected to have an affect against parties other than the debtor
o
Security interests in other types of prop can give notice by creditor taking possession of collateral

Voluntary liens assure creditor that if debts not paid, he can take possession of debtors prop & sell it to satisfy the
loan
Purchase Money Security Interests - liens used to furnish credit necessary to purchase the collateral

o
Ie car loan, mortgage to buy house, etc; wouldnt include home equity loans taken out on house debtor
already owns to make improvements in house/buy other prop

Creditor w/lien in prop can seize the prop w/o going through suit & execution judgment through foreclosure
or repossession
o
Secured creditor has all the remedies of unsecured creditors; can sue on debt, get a judgment, & have
sheriff seize collateral knowing its interest in the prop has already been guaranteed
Deficiency judgment - if prop securing loan isnt sufficient to pay off balance, remainder is a deficiency judgment

o
remaining amount would be unsecured & creditor has to sue to recover that amount & seize/sell other
prop of the debtors to satisfy deficiency judgment
o
Debtors sometimes defend against deficiency judgments by claiming sale of secured prop wasnt done
correctly & if it had been, the prop wouldve been sold for enough to cover entire secured debt

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If debtor wins, creditor stuck w/deficiency

In non-consumer trans, presumption against creditor that can be rebutted by showing prop
wouldve been sold for just as much even if all procedures had been followed - UCC 9-626
Statutory Liens & Trust Funds - state law creates certain liens by operation of law in favor of certain types of creditors
Landlord lien most common type
artisan lien (possessory lien on personal prop of debtor) - gives artisan (ie mechanic) lien in prop that hes working
on; if debtor doesnt pay, then artisan keeps prop until he does so or to sell prop to satisfy lien
Charging lien - created by common law/statute to give attny lien on proceeds of a successful litigation
Trust Fund Statutes - give certain creditors special priorities in debtors prop
o
Make debtor trustee of certain prop for favored creditors, who are beneficiaries of the statutory trust &
effectively get a priority in that prop
Prop Exempt from Collection Process - each state protects some prop from seizure (ie homestead exemption)
State protections vary in the amount of protection they provide & what prop can be exempted
Granting a security interest in prop waives the debtors right to exempt prop that might otherwise be protected from
collection process
o
Exemption only applies to prop that debtor owns outright or if debtor has equity in prop in excess of liens
on prop
Collection in Other J/Ds - state judgments can be enforced b/c of full faith and credit clause of const
Most states have adopted Uniform Enforcement of Foreign Judgments Act to provide streamlined procedures
Judgments from fed ct can be enforced locally in the state where ct sits - 28 USC 1962, FRCP 64
o
Can be enforced in other states by reg w/other fed dist cts - 28 USC 1963

Priorities - Struggle among Creditors

Background - 1st concern of debtor/creditor is whether procedure for judgment/execution/sale has been followed

Debtors are often in trouble w/multiple creditors, and theres dispute over which gets to recover from which of the
debtors assets first
Gen rule in state collection law is first in time, first in right

o
First creditor to levy on a fpiece of prop will have the right to be paid in full from the sale proceeds of
that prop b/f any other creditor gets a share of the proceeds from that prop
o
State law generally doesnt provide for sharing among creditors & doesnt make determinations about
which creditors are more deserving of being paid

Unsecured creditors who havent received a judgment are least likely to be paid from debtors prop
Key date for determining priority turns on who made required legal move 1st, not who has the oldest loan

or who showed up 1st at sale of prop

o
Perfection - perfecting interest in prop gives creditor priority over subsequent interests in the same prop

Unsecured creditor v. unsecured creditor - needs to get a judgment & then levy on debtors prop b/f he can get an
interest in debtors prop so he can collect from proceeds of prop sale
o
b/w 2 judgment creditors, 1st to levy wins
o
Date of levy not always controlling date for determining priorities
Some states look at the date the judgment creditor started execution process by delivering writ to

sheriff

lien inchoate on date sheriff gets writ that becomes choate on date sheriff levies &
relates back to earlier date
o
Sometimes, unsecured creditors get judgment lien by recordation, giving them priority over subsequent
secured or lien creditors

Unsecured judgment creditor v. secured creditor - for secured creditors, first to perfect gets priority in recovering
o
critical issue is whats required for perfection for secured creditor against unsecured judgment
creditor
Recording interest usually required for perfection; if its done b/f judgment creditors lien, then

secured creditor wins; if judgment lien is 1st, then unsecured judgment creditor wins
Credit Bureau of Broken Bow v. Moninger - sheriff saying "I execute on truck" enough for CBBB to become lien creditor
& give it prior rights over banks security interest recorded after lien arose
Rationale - UCC 9-317 says lien creditor acquires lien in prop by attachment, levy or the like; lien on personal

prop is acquired at time prop is seized in execution; CBBB became a lien creditor when sheriff levied truck
o
Manual interference w/personal prop not required for a valid levy

Sufficient that if prop is present & that sheriff in express terms asserts his dominion over prop by
such writ

85

Failure to take physical possession doesnt affect validity of levy

Some j/ds do require sheriff to take physical possession of prop or appoint an independent custodian for levy to be valid
Even if physical possession by sheriff not required, later conduct by creditor can vitiate lien
o
If levied upon goods are left w/debtor for unreasonable period of time w/consent of creditor, the lien will
be lost

Seen as evidence of fraud & ct will set aside 1st judgment lien in favor of subsequent creditors
Judgment Creditors & Secured Creditors v. Buyers - 1st in time, 1st in right applies
If buyers buys after security interest perfected, she buys prop subject to encumbrance & would lose
Unsecured Judgment Creditors & Secured Party v. TIB
b/c equality among creditors is fundamental principle of bkcy, consensual & statutory creditor swill face rigorous
testing of the legal soundness of their priorities
o
Judgment liens routinely avoided in bcky

Garnishment
Garnishment when creditor directs a 3rd party to make payments to it instead of the debtor
done through writ of garnishment, which is used to attach debts owed to the debtor for the benefit of the debtors
judgment creditor
Can garnish wages by obtaining writ directing debtors employer to pay wages to employees creditor rather than to

the employee

can use same procedure to garnish a bank account or to obtain an order that bank turn over contents of debtors
safety deposit box
Two parts to writ of garnishment

o
Questions to see if garnishee owes any money to debtor or has any prop belonging to debtor
o
Command to garnishee to withhold payment or return of the debtors prop pending further order of the ct

If garnishee lies/disobeys writ, it can be liable to creditor; garnishee can fight writ by asserting that it has a
superior interest in the debtors prop (ie security interest)
If garnishee gives money to debtor instead of creditor, garnishee can be liable itself for the amounts that shouldve gone to
the creditor
If you can garnish someones wages, it gives creditor huge leverage
15 USC sec 1671 - limits wage garnishment to 25% of a person's disposable earnings or, if they make less than minimum
wage, $225/week is protected

For all creditors garnishing wages (ie 2 creditors cant each garnish 25%)
Higher limits for child support & alimony

o
TX only allows garnishment for alimony & child support
Even if wages cant be garnished from the employer, can garnish them from the bank as soon as the money gets into the
bank (encourages debtors to use check cashers instead of a bank)
Restrictions on wage garnishment - problem if creditor could garnish all of debtors wages b/c hed be left w/nothing to
live on & would have much less incentive to work

Sniadach v. Family Finance Corp - SCOTUS

o
Prejudgment garnishment is a taking which may impose tremendous hardship on debtor w/family to
support
o
In a large number of cases, the debt is a fraudulent one; creditor dupes debtor & he becomes trapped in an
easy credit nightmare where hes charged double for something he couldnt pay for even if the price was proper
o
Leverage of creditor on wage earner is enormous; creditor gets not only the debt owed but collection fees
incurred by its attny
If debt is small, debtor under immense pressure to pay so he can get his wages back

If debt is large, debtor under pressure to sign a new K of payment schedule, which incorporates
additional charges of collection fees
Consumer Credit Protection Act - cong restricted access of all creditors tot the wages of the debtor

o
Acts as a floor, states can provide additional protection from wage garnishment if they wish
1671. Congressional findings and declaration of purpose
(a) Disadvantages of garnishment. The Congress finds:

o
(1) The unrestricted garnishment of compensation due for personal services encourages the making of
predatory extensions of credit. Such extensions of credit divert money into excessive credit payments and thereby hinder
the production and flow of goods in interstate commerce.

86

(2) The application of garnishment as a creditors' remedy frequently results in loss of employment by the
debtor, and the resulting disruption of employment, production, and consumption constitutes a substantial burden on
interstate commerce.
o
(3) The great disparities among the laws of the several States relating to garnishment have, in effect,
destroyed the uniformity of the bankruptcy laws and frustrated the purposes thereof in many areas of the country.
(b) Necessity for regulation - On the basis of the findings stated in subsection (a) of this section, the Congress
determines that the provisions of this subchapter are necessary and proper for the purpose of carrying into execution the powers
of the Congress to regulate commerce and to establish uniform bankruptcy laws.
1672. Definitions
For the purposes of this subchapter:
o
(a) The term earnings means compensation paid or payable for personal services, whether denominated
as wages, salary, commission, bonus, or otherwise, and includes periodic payments pursuant to a pension or retirement
program.
o
(b) The term disposable earnings means that part of the earnings of any individual remaining after the
deduction from those earnings of any amounts required by law to be withheld.
o
(c) The term garnishment means any legal or equitable procedure through which the earnings of any
individual are required to be withheld for payment of any debt.
1673. Restriction on garnishment
(a) Maximum allowable garnishment - Except as provided in subsection (b) of this section and in section 1675 of
this title, the maximum part of the aggregate disposable earnings of an individual for any workweek which is subjected to
garnishment may not exceed
o
(1) 25 per centum of his disposable earnings for that week, or
o
(2) the amount by which his disposable earnings for that week exceed thirty times the Federal minimum
hourly wage prescribed by section 206(a)(1) of Title 29 in effect at the time the earnings are payable,
o
whichever is less. In the case of earnings for any pay period other than a week, the Secretary of Labor
shall by regulation prescribe a multiple of the Federal minimum hourly wage equivalent in effect to that set forth in
paragraph (2).
(b) Exceptions
o
(1) The restrictions of subsection (a) of this section do not apply in the case of

(A) any order for the support of any person issued by a court of competent jurisdiction or in
accordance with an administrative procedure, which is established by State law, which affords substantial due
process, and which is subject to judicial review.
(B) any order of any court of the United States having jurisdiction over cases under chapter 13 of

Title 11.

(C) any debt due for any State or Federal tax.

o
(2) The maximum part of the aggregate disposable earnings of an individual for any workweek which is
subject to garnishment to enforce any order for the support of any person shall not exceed-(A) where such individual is supporting his spouse or dependent child (other than a spouse or

child with respect to whose support such order is used), 50 per centum of such individual's disposable earnings for
that week; and

(B) where such individual is not supporting such a spouse or dependent child described in clause
(A), 60 per centum of such individual's disposable earnings for that week;
o
except that, with respect to the disposable earnings of any individual for any workweek, the 50 per
centum specified in clause (A) shall be deemed to be 55 per centum and the 60 per centum specified in clause (B) shall be
deemed to be 65 per centum, if and to the extent that such earnings are subject to garnishment to enforce a support order
with respect to a period which is prior to the twelve-week period which ends with the beginning of such workweek.
(c) Execution or enforcement of garnishment order or process prohibited - No court of the United States or any
State, and no State (or officer or agency thereof), may make, execute, or enforce any order or process in violation of this section.
1674. Restriction on discharge from employment by reason of garnishment
(a) Termination of employment - No employer may discharge any employee by reason of the fact that his earnings
have been subjected to garnishment for any one indebtedness.
(b) Penalties - Whoever willfully violates subsection (a) of this section shall be fined not more than $1,000, or
imprisoned not more than one year, or both.

Fraudulent Conveyances & Shielding Debtor Assets

Development of Uniform Fraudulent Transfer Act

Original fraud transfer law codified concept of constructive/presumptive fraud

o
Allowed creditor to avoid/set aside a transfer even though the debtor was innocent of fraud intent

87

Defined circumstances under which transfer was unfairly disadvantageous to debtors creditors, regardless
of intent

Modern UFTA has same protections w/some modifications

Sec 5(a) - permits a creditor to avoid any transfer made
In exchange for unfairly low consideration

At a time when debtor was insolvent

Added b/c the innocent transfer depletes assets of debtor whos already insolvent, thereby injuring
creditors

ACLI Gov Securities Inc v. Rhodes

Facts - AGS got a judgment against R for 1.5mil

R & his sister were tenants in common of 68 acres; prop valued at 325k
Day b/f judgment against R was signed, R conveyed his interest in 68 acres to his sister for $1 and other good

consideration
o
Claimed transfer was to pay antecedent debt R owed sister

Issue - validity of a conveyance of prop from R to his sister the day b/f a judgment of 1.5mil was entered
against R
Holding - conveyance was fraudulent & AGS is entitled to judgment

Conveyance wasnt based on fair consideration & R was insolvent at time of transfer
R made transfer of prop w/actual intent to defraud AGS

Rationale - burden on creditor to establish that conveyance was made w/o fair consideration
If evidence/facts as to fairness of consideration are w/in transferees control, burden shifts to transferee to come

forward w/that evidence

o
Especially heavy burden on transferee in family trans to establish consideration was fair

Satisfaction of antecedent debt can be fair consideration so long as debt isnt disproportionately small compared to
value of prop transferred
Person is insolvent when value of assets is less than the amount of his liabilities as they become due & mature

When a transfer is made w/o consideration, burden of going forward w/proof of solvency is on the D
Factors from which fraud intent can be inferred

o
Close relationship among the parties to the trans
o
Secrecy & haste of the sale
o
Inadequacy of consideration
o
Transferors knowledge of creditors claim & his own inability to pay it
UFTA

2 types of fraudulent transfers that UFTA deals w/

UFTA Sec 4 - Actual Fraud; any creditor can use this provision
o
Hard to show actual fraud (that it was intent to hinder/delay creditor from getting asset)
o
Sec 4(b) - lists examples of what indicates there was actual fraud

UFTA Sec 5(a) - constructive fraud; only people who are creditors at the time of transfer can use this provision
o
If debtor transfers away any assets 1) for less than reasonably equivalent value (value defined in UFTA
sec 3) and 2) debtor has to be insolvent/rendered insolvent by the transfer
o
If 2 requirements are met, can sue recipient to get prop back or a money judgment
Whatever value recipient paid/improvements made on prop, recipient can get compensated for such values

Insolvency: UFTA sec 2 - when assets are less than debts, but assets doesnt include exempt or
encumbered prop

Only what an unsecured could reach

2. Insolvency.
(a) A debtor is insolvent if the sum of the debtor's debts is greater than all of the debtor's assets at a fair valuation.

(b) A debtor who is generally not paying his [or her] debts as they become due is presumed to be insolvent.
3. Value.
(a) Value is given for a transfer or an obligation if, in exchange for the transfer or obligation, property is

transferred or an antecedent debt is secured or satisfied, but value does not include an unperformed promise made otherwise than
in the ordinary course of the promisor's business to furnish support to the debtor or another person.

(b) For the purposes of Sections 4(a)(2) and 5, a person gives a reasonably equivalent value if the person acquires
an interest of the debtor in an asset pursuant to a regularly conducted, noncollusive foreclosure sale or execution of a power of

88

sale for the acquisition or disposition of the interest of the debtor upon default under a mortgage, deed of trust, or security
agreement.
(c) A transfer is made for present value if the exchange between the debtor and the transferee is intended by them
to be contemporaneous and is in fact substantially contemporaneous.
4. Transfers Fraudulent as to Present and Future Creditors.
(a) A transfer made or obligation incurred by a debtor is fraudulent as to a creditor, whether the creditor's claim
arose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the
obligation:
o
(1) with actual intent to hinder, delay, or defraud any creditor of the debtor; or
o
(2) without receiving a reasonably equivalent value in exchange for the transfer or obligation, and the
debtor:

(i) was engaged or was about to engage in a business or a transaction for which the remaining
assets of the debtor were unreasonably small in relation to the business or transaction; or
(ii) intended to incur, or believed or reasonably should have believed that he [or she] would

incur, debts beyond his [or her] ability to pay as they became due.
(b) In determining actual intent under subsection (a)(1), consideration may be given, among other factors, to
whether:
o
(1) the transfer or obligation was to an insider;
o
(2) the debtor retained possession or control of the property transferred after the transfer;
o
(3) the transfer or obligation was disclosed or concealed;
o
(4) before the transfer was made or obligation was incurred, the debtor had been sued or threatened with
suit;
o
(5) the transfer was of substantially all the debtor's assets;
o
(6) the debtor absconded;
o
(7) the debtor removed or concealed assets;
o
(8) the value of the consideration received by the debtor was reasonably equivalent to the value of the
asset transferred or the amount of the obligation incurred;
o
(9) the debtor was insolvent or became insolvent shortly after the transfer was made or the obligation was
incurred;
o
(10) the transfer occurred shortly before or shortly after a substantial debt was incurred; and
o
(11) the debtor transferred the essential assets of the business to a lienor who transferred the assets to an
insider of the debtor.
5. Transfers Fraudulent as to Present Creditors.
(a) A transfer made or obligation incurred by a debtor is fraudulent as to a creditor whose claim arose before the
transfer was made or the obligation was incurred if the debtor made the transfer or incurred the obligation without receiving a
reasonably equivalent value in exchange for the transfer or obligation and the debtor was insolvent at that time or the debtor
became insolvent as a result of the transfer or obligation.
(b) A transfer made by a debtor is fraudulent as to a creditor whose claim arose before the transfer was made if the
transfer was made to an insider for an antecedent debt, the debtor was insolvent at that time, and the insider had reasonable cause
to believe that the debtor was insolvent.

89

Intro to Bkcy
Bkcy Code supreme over state law
Goal for creditors - orderly & equal distribution of debtors assets or income
o
In state law system, 1st person to file/levy wins
o
If fed used state law system, everyone would race to be 1st to file; creditors reached agreement to get less through
bankruptcy, but theyll at least get something w/o having to race to perfect their claim
Goal for debtors - give relief to debtor; want debtor to be productive, need incentive to work thats not there if all the
debtors money/assets goes immediately to creditors
o
For biz debtors, want to reorganize; often biz more valuable as a whole than if they get broken apart
Sell off approach - take all debtors assets & selling them, then paying off creditors w/whatever money you get
o
For biz & consumers, sell off done through chpt 7
Pay off approach - debtor keeps assets & creates plan to pay off as much of the debt as possible over next few years; Chpt
11 for biz & chpt 13 for consumers
Elements Common to Consumer Bkcy
Outline of Consumer Bkcy - 2 types, liquidation & payout plan
o
Chpt 7 - liquidation statutes for both biz & consumer bkcy (liquidation also possible under Chpt 11 for both biz &
consumer)
o
Debtor gives up all non-exempt assets & TIB sells assets to pay off debtors creditors
o
Benefit of liquidation is that debtor receives discharge of prepetition debts

Achieves 2 goals of bkcy: (1) fair distribution of debtors assets for benefit of all creditors & (2)
giving debtor a fresh start
o
Chpt 13 - statutes for consumer pay out plan (also possible for consumers to file under chpt 11)
o
Debtor keeps assets in exchange for promising to pay off debs over a period of time out of future income
Assets usually sold below value, so payout plan lets debtors keep their assets & pays creditors

more than liquidation would, especially since most consumer bkcy are no-asset cases
Getting started - debtor begins bkcy case by filing petition, requesting bkcy relief & disclosing debtors assets/liabilities
o
After filing, Bkcy estate is created which owns all of the debtors assets & an automatic stay goes into effect to stop
all collection actions against the debtor, the debtors prop, & prop of the estate
o
2005 bkcy code amendments put increased pressure on debtors attnys to verify accuracy of info in schedules/bkcy
petition
o
Failure to do so could mean attnys dont get their fees approved or get sanctioned by ct. 11 USC 526,
707(b)
Prop of the Estate
541(a) - The commencement of a case under section 301, 302, or 303 of this title creates an estate. Such estate is comprised
of all the following property, wherever located and by whomever held
o
Doesnt matter who has debtors prop or where it is, it all goes in to BE
o
(1) Except as provided in subsections (b) and (c)(2) of this section, all legal or equitable interests of the debtor in
property as of the commencement of the case.
o
(3) Any interest in property that the trustee recovers under section 329(b), 363(n), 543, 550, 553, or 723 of this
title.
o
Involves avoidance powers; trustee trying to get as much prop as possible for unsecured creditors

Mostly done by taking away prop from secured creditors

550 sets out trustee avoidance powers (strong arm, etc)

o
(5) Any interest in property that would have been property of the estate if such interest had been an interest of the
debtor on the date of the filing of the petition, and that the debtor acquires or becomes entitled to acquire within 180 days after
such date
o
If you inherit money, get if from life insurance, death benefit plan w/in 180 days from filing, it becomes
part of the estate

Typically, prop acquired after filing doesnt go into the BE

o
(6) Proceeds, product, offspring, rents, or profits of or from property of the estate, except such as are earnings
from services performed by an individual debtor after the commencement of the case
o
Whatever you earn after you declare bkcy is part of fresh start, doesnt go into BE
o
(7) Any interest in property that the estate acquires after the commencement of the case
541(b) - lists prop that isnt included in BE

90

541(c)(1) - even if something is nontransferable outside of bkcy, in bkcy that doesnt stop prop from being transferred from
debtor to BE
o
(c)(2) - A restriction on the transfer of a beneficial interest of the debtor in a trust that is enforceable under
applicable nonbankruptcy law is enforceable in a case under this title (ie spend thrift trust)
o
some stuff that restricts transfer is enforceable;
If something is not part of the BE, debtor gets to keep it; debtor wants prop to not be part of BE
Question of at what point an expectancy of the debtors must be allocated to debtors past (prop of BE) or to his future (prop
for debtors fresh start)
o
At what point does an expectancy become prop?
o
Segal v. Rochelle - tax refund from a biz's prior taxable year was prop of the estate even though the right
to receive the refund didnt technically accrue until post petition
o
Lines v. Frederick - vacation pay accured but not due & owing on the date of bkcy wasnt prop of the
estate, but was part of the fresh start
Distinguished from Segal based on special status of wages

o
Kokoszka v. Belford - accrued tax refund was prop of the estate b/c the taxes were on prior personal
earnings
o
Cong overruled Lines through modern version of sec 541
o
Prop of estate includes all interests of value to the estate, regardless of competing policies
542(a) - creditor like NMAC SHALL deliver to TIB & account for BE prop or the value of such prop - NMAC v. Baker
o
Affirmative obligation on creditor to return estate prop unless its of inconsequential value to the BE
o
Nothing in 542(a) requires debtor provide creditor w/adequate protection as a condition precedent to turning over
estate prop
Sharp v. Dery - prop to which debtor didnt have an enforceable right as of petition date isnt prop of BE
o
Right to bonus dependent on debtor being employed at time checks were paid, which was after petition date
o
Look to state law to see if debtor had right as of petition date
o
While employer had no discretion over amount of bonus to pay debtor, he did have discretion on whether
to pay any bonus at all
o
541 doesnt expand debtors rights against others more than they exist at commencement of case & trustee can take
no greater rights than debtor himself had on date of filing
Vogel v. Palmer - debtor paid bonus by employer 3 months after filing bkcy
o
3 facts leading ct to conclude that debtor had no enforceable interest in bonus on petition date
o
For debtor to receive bonus, he had to be an employee when bonuses were paid
o
To be eligible for bonus, debtor had to satisfactorily perform his job
o
Payment of bonus was at employers sole discretion
Disputes about inclusion of expectancies in prop of estate under sec 541
o
Legal interests that are not enforceable at the date of petition, but may be enforceable at a future time
o
Question is whether theyre sufficiently matured & certain as of petition date so that theyd be included in
BE
o
Are they allocated to past or future
o
Entitlements that are nontransferable (permits/licenses) which may be prop
o
Ie drivers license which provides a valuable legal right but is not prop of BE; has value to no one besides
debtor
o
However, taxi licenses might technically be nontransferable, but theyre bought & sold all the time; if
thats the case, then license could be prop of BE
o
Restrictions on transferability imposed by K or law
o
Debtor owns valuable prop, but has no right to transfer the prop or can only transfer under limited
circumstances

If restrictions valid in bkcy, then the prop couldnt be transferred to the BE & wouldnt be
available to pay off creditors
o
Generally, such restrictions arent enforceable in bkcy - sec 541(c)(1)
o
Some restrictions on alienation are effective to keep prop out of BE
Spendthrift trust exception (541(c)(2)) - debtors are often allowed to keep retirement account out

of their BE b/c such accounts are set up as spendthrift trusts

In re Orkin - since retirement plan wasnt ERISA qualified, restriction on transfer isnt enforceable under fed law, thus
retirement account becomes prop of BE
o
Under state law, where debtor has the power to amend or terminate the trust, the debtor has such absolute
authority over the trust that it must be included in prop of BE

91

Here, debtor served as trustee of retirement plan & employer & could dissolve plan at will on 60 days
notice (to himself) w/all funds reverting to the debtor
Kwatcher v. MSEPP - person functioning as an employer cant be a covered employee under ERISA
o
Pension payments to employer would become of advantage to an employer, thereby violating ERISAs limitations
o
ERISA unambiguously debars a sole shareholder from employee status, notwithstanding the fact that he might
work for the corp he owns alongside non-owner employees
Cong has specifically excluded other types of retirement plans from prop of BE, not just those w/spendthrift
provisions
o
Tax-deferred annuities, employee compensation plans, health insurance plans, educational plans of debtors
children/grandchildren (provided the funds are in certain tax-sheltered accounts)
o
Rousey v. Jackoway - SCOTUS said debtors IRA account was exempt prop under 522(d)
o
SCOTUS said cong intended to include IRAs in list of retirement account exemptions, even though
theyre not specifically listed
o
Shows 2 step approach: (1) if props excluded from BE, debtor keeps it; (2) even if prop is part of BE, if
its exempt from creditor attachment, debtor keeps it
While funds in retirement accounts are earned pre-petition, taking them away from debtor would likely deny him a chance
at a fresh start that bkcy process seeks to provide
o
Policy considerations over whether retirement funds should be part of BE/exempt prop
o
Most americans dont have retirement accounts; exclusion from prop of BE mostly benefits more affluent
In re Burgess - brothel license was prop of BE b/c it had immense value to debtor & w/o it he couldnt operate his biz, thus
thered be nothing to reorg
o
Rationale - prop not defined in BC, but interpreted liberally to further policies underlying BC
o
To encourage reorg, cong wanted broad range of prop to be included in BE
o
Cases have said liquor licenses, required by the state to sell alcohol, are prop under bkcy laws; ct finds
these similar to brothel licenses; Cts have also said licenses required for coin-operated crane games were prop
The Trustee

BE & its assets are managed by trustee in bkcy (TIB)

Typically a local attny who specializes in bkcy work
Generally, TIBs duties are to gather all of the debtors assets, protect & maintain them, sell prop for highest possible price &
distribute proceeds among creditors as required by statute - sec 704
TIB also required to scrutinize claims against debtor & oppose invalid/excessive claims; also has duty to challenge
improper exemptions claimed by the debtor & to investigate debtors affairs as necessary - sec 704
In chpt 7, creditors can elect TIB (sec 702), but its rare b/c they get such little payout in chpt 7
o
Officer from US trustees office selects TIB from panel of approved TIBs - sec 701(a), 28 USC 586(a)(1)
TIB owes fiduciary duty to look out for the interests of ALL gen, unsecured creditors
o
TIB ensures creditors dont take more than their fair share; TIB challenges security interests, preferences, &
priority claims for benefit of all gen unsecured creditors
o
Unless creditor can clearly demonstrate that it deserves priority in bkcy payout, TIB will challenge their request to
enlarge the estate for distribution to all unsecured creditors
TIB has incentive to maximize recoveries for unsecured creditors b/c his fees are based on a % of the distributions he
makes, which are primarily to unsecured creditors - sec 326, 330
o
In no-asset cases, TIB gets $60 of $299 filing fee - 330(b)
Difference b/w TIB & UST
o
TIB - private citizen who serves as trustee in particular bkcy case for a fee
o
UST - gov official appointed by AG for 5yr term to serve monitoring & admin function in bkcy cts - 28 USC 581
o
28 USC 586 - UST's duties
Appointing chpt 7 trustees & monitoring the cases

Appointing & supervising trustees in chpt 13 cases

Appointing members of UCC in chpt 11

Monitoring abuse of consumer bkcy

Certifying credit counseling agencies

Approving debtor education programs

o
UST also supervises compensation of TIBs & atnys in bkcy cases - 28 USC 581(a)(3)(A)
o

The Automatic Stay - Sec 362

92

Filing for bkcy triggers an automatic stay that prohibits any creditors attempt to continue to collect form the debtor
or the debtors prop
o
Prevents any prop from leaving BE
o
Until ct gathers & distributes assets of debtor or until stay is lifted, creditors are generally precluded from taking
any individual action against the debtor or the debtors BE
Generally, stay is in effect & goes into effect immediately; If case is closed & dismissed, automatic stay can become
permanent injunction or stay can be lifted
362(a) - prohibitions of the stay
o
Stops commencement/continuation of variety of processes, including judicial processes
o
Stops litigation if one side files for bkcy; stops all action in ct once a person files for bkcy
o
Stops enforcement of a judgment
o
Cant repossess/keep prop
o
Cant perfect any liens against BE after someone declares bkcy
o
Cant take any act to collect, assess or recover a claim against the debtor that arose before the
commencement of the case
Most people file for bkcy to stop collection efforts against them

Not limited to prop of BE

o
Automatic stay doesnt apply to obligations/debts incurred after filing & creation of BE
362(b) - exceptions that permit certain types of action against the debtor to continue
362(c)(2)(C) - Automatic stay applies to creditors of educational loans & remains in effect until:
o
Case is closed
o
Case is dismissed
o
Discharge is granted or denied
362(c)(3) - if you filed for bkcy 1 yr b/f & it was dismissed, automatic stay only lasts for 30 days
Automatic stay acts to maintain status quo until bkcy ct can sort things out
Andrews University v. Merchant - withholding debtors transcript after it filed for bkcy violated AS as it was attempt to
collect on prepetition student loans
o
automatic stay is to be broadly interpreted & its self executing; automatically takes effect upon filing
o
While educational loans are excepted from discharge under 523, theyre not excepted from the automatic stay under
362(b)
Nissan Motor Acceptance Corp v. Baker - selling repossessed truck after receiving knowledge of debtors bkcy violated AS
o
Holding - NMAC's conduct violated its obligations under 542(a) & subverts authority of bkcy ct in 363(e) to order
adequate protection when the bkcy ct, NOT the debtor, deems such protection is necessary
o
NMAC willfully violated the automatic stay by selling the truck after having notice of the bkcy case
o
Rationale - 362(a)(3) prohibits any action to obtain possession of prop of the BE or of prop from the BE or to
exercise control over prop of the BE
o
Creditors continued retention of BE prop after notice of BE constitutes an exercise of control over
prop of the BE in violation of the automatic stay
o
Nothing in 363(e) grants a creditor like NMAC a self help remedy to retain BE prop as adequate
protection
NMAC v. Baker showed that creditors should wait to act until after stay is lifted by ct; ct was going to grant NMAC's
motion, but b/c it acted prematurely, it ended up paying nearly 30k in dmgs
Preliminary Procedures
debtor files schedules along w/his bkcy petition; schedules list assets, liabilities, income, expenses, etc.
Debtor has to provide complete list of creditors & their addresses so they can receive notice of bkcy
Debtor has to identify what prop he claims as exempt
Debtor needs to attend debt counseling & provide a certificate saying so b/f filing - sec 109(h), 521(b)
Failure to list a debt may make it nondischargeable - 523(a)(3)
Any false statement sin petition/schedules may result in a complete denial of discharge as to all debts - 727(a)(4); could
also lead to perjury charges against debtor
Debtor has to file pay stubs for previous 2 months b/f filing, include a statement of monthly income & how its calculated, &
a statement disclosing any anticipated increases in income over the next 12 months - 521(a)(1(iv-vi)
Debtor must file tax return from prior yr w/ct & copy given to any creditor that asks for it- 521(e)(2)
Tax returns filed w/IRS after petition date also have to be filed w/bkcy ct - 521(f)
Failure to produce required docs will result in dismissal of debtors case, even if hes otherwise eligible for bkcy - 521(i)
To increase accuracy, AG performs random audits on bkcy filings (23% of cases from 1st review had a material misrep)

93

o
o

o
o
o

707(b)(4)(C), (D) - debtors attnys must sign debtors petition & doing so reps that attny has performed a reasonable
investigation & has no knowledge that the info in the schedules is incorrect
o
Added by cong to increase accuracy of bkcy filings
Consumer bkcy attnys are debt relief agencies under BC & are specifically prohibited from making any statement
in any doc filed in a case that is untrue or misleading, or that upon exercise of reasonable care, shouldve been known by such
agency to be untrue or misleading - 101(12A), 526(a)(2)
o
Noncompliance by attnys could result in loss of fees, payment of actual dmgs, or payment of opposing
counsel's fees - 526(c)(2), 707(b)(4)(A)
First Meeting of Creditors - Sec 341 meeting (meeting mandated by sec 341)
Ct orders meeting be held w/in 40 days of petition, normally at ct house, but can be elsewhere - BR 2003(a); UST
or his officer presides over meeting - BR 2003(b)
Meeting allows creditors/trustee to examine debtor about his financial status/assets/debts/etc
In larger cases, at meeting creditors can elect TIB (sec 702, 1104(b)) or a UCC (sec 705(a), 1102(a)(1))

94

Chapter 7 - Consumer Liquidation

Chpt 7 Intro
Sec 726 - governs distribution process in liquidation
b/f selling prop debtor has an interest in, TIB must 1st determine whether any other person/corp has an interest in

that prop
o
If another party has a recognized interest, then TIB must pay that party the part of the proceeds to which
its entitled & remainder would go to pay gen unsecured creditors

Trustee has to consider if theres a valid exemption which would allow debtor to keep the prop or at least get to
keep a portion of the proceeds from the sale of the exempt prop
After prop sold, proceeds recovered, secured interests paid, THEN TIB pays gen creditors a pro rata share of the remaining
proceeds

3 categories of gen creditors: (1) priority claims, (2) gen unsecured creditors, (3) subordinated creditors
o
Priority creditors - entitled to get paid in full or up to the dollar limits of their statutory priorities b/f
other creditors are paid anything - sec 507
even among priority creditors, some get paid b/f others - sec 507(a)

o
Gen unsecured creditors - ordinarily paid a pro rata share from remaining funds in proportion to what
each is owed
o
Subordinated creditors - get paid last b/c theyve been equitably subordinated, usually b/c of some
wrongdoing
Chpt 7 Eligibility - Chpt 7 Means Test
Chpt 7 liquidation baseline
Bkcy substitutes an orderly process under a uniform fed law for other approaches to collection w/chpt 7 as central arbiter
b/w creditors & debtors
b/c of power of chpt 7, cong has limited when debtors can be eligible for chpt 7; want to encourage more people to go into
chpt 13 instead
Cong built incentives into chpt 13: (1) unique opportunity to get current on a home mortgage in arrears, (2)

chance to keep more prop, (3) discharge that covered certain debts that are nondischargeable in chpt 7
Cong gave bkcy judges power to dismiss chpt 7 cases if filing involved substantial abuse
debtor engaged in crim activity b/f bkcy, even though they were technically eligible

Debtor could repay creditors, but it would involve sacrifice, so they filed for chpt 7 instead
o
Told to convert to chpt 13 or get out of bkcy system
In re Shaw - debtors whose proposed family budget is excessive & unreasonable should have case dismissed if they dont
convert to chpt 13

Debtor had excessive housing/car/college payments that werent reasonable & necessary expenses under the
circumstances
debtors liabilities are primarily consumer; look for substantial abuse based on totality of the circumstances

o
Important factor is whether debtor has ability to repay debt; examine future income against future
expenses

Ct must also examine:

o
(1) whether the debtor filed for bkcy b/c of sudden illness, calamity, disability, or unemployment
o
(2) whether debtors schedules & statement of current income/expenses reasonably & accurately reflect
his true financial condition
o
(4) whether the debtor incurred cash advances & made consumer purchases in excess of his ability to
repay
o
(5) whether the debtors proposed family budget is excessive or unreasonable
o
(6) whether the petition was filed in good faith
Debtors can repay a good portion of their debt over 3yr period, but if debtors stay in chpt 7 it will be a no asset

case & creditors get nothing

o
Debtors expenses can be reduced w/o harming their ability to pay for food, shelter & other necessities

Mortgage expense is clearly unwarranted; paying 3300/month for 3200 square foot home & no
kids at home (24 yr old son lives there but doesnt pay rent)
can reduce phone bills & swimming pool costs as well as car/insurance costs

If debtors reduced their unnecessary expenses, they could pay 2k/month under chpt 13
o
Their financial distress was caused by their lifestyle choices

95

Debtors have clearly been aware of their inability to pay ever increasing debt for years & continued to incur cash
advances & consumer purchases beyond their ability to pay
Ct must weigh debtors desire to maintain their lifestyle against the harm to creditors

o
In this case, it weighs against the debtors favor & leads to a finding of bad faith filing
2005 Amendments - Cong took steps to make bkcy less accessible by screening debtors seeking relief more aggressively
than cts/trustees had been doing
Only those who made it past screens could file for chpt 7; rest had to file chpt 13 or deal w/debts outside of bkcy

Presumption of Abuse
Cong exempted anyone whose debts are mostly biz related from any screening for abuse - sec 707(b)(1)
Someone w/small biz loaded w/biz debt not subject to 707(b), but similar person who has mostly consumer debts

would be scrutinized under 707(b)

New chpt 7 screening test is semi-automated; employs fixed formula to determine which debtors should be deemed
ineligible & judicial judgment is sharply limited
707(b)(1) - tells cts to dismiss a case/convert it to chpt 13 or 11 if chpt 7 filing constitutes abuse

Two methods of determining abuse: 707(b)(2)(A)(i) & 707(b)(3)

707(b)(2)(A)(i) - presumption of abuse based upon a formula

o
Judges apply formula & then dismiss or convert to chpt 13/11 cases formula says are abusive
o
707(b)(2)(B) - gave judges discretion to consider special circumstances (serious medical condition,
services in armed forces) to adjust calculations to determine which debtors are presumed to abuse bkcy system

Suffering or distress not enough; special circumstances must effect income/expenses that can
be quantified & extensively documented
707(b)(3) - while cong gave little discretion to say case wasnt abusive, it gave cts great power to say that case

which passed 707(b)(2) means test WERE abusive

o
Could dismiss case based on bad faith & totality of circumstances
Means Test Formula: Income & Expenses
Means test a mechanical formula to determine who can & cant (as a matter of law) repay some debt
Debtors who cant pass the means test (ie they CAN repay some of their debts) are presumed to abuse bkcy process

Subtract expenses from income; if the difference would pay X amount of debt, the debtor is barred from chpt 7
In practice, in consumer bkcy use software & input info to determine if consumer passes/fails means test
Applicability of Means Test - determine whether or not debtors current monthly income (CMI) is greater than the annual
median (middle) income (AMI) in the state
Current monthly income defined in 101(10A); calculate for debtors average income for 6 months b/f bkcy,

including wages, interest on bank accounts, stock dividends, unemployment compensation, tax refunds, & revenues & accounts
receivable for debtors w/small biz
o
In looking at current monthly income, look at 6 months proceeding bkcy filing day & find average for
those 6 months to get current monthly income

Income includes anything paid on a regular basis to the debtor; dont deduct for taxes or health
insurance
Includes household expenses paid by someone else

Excludes social security income

o
Multiply current monthly income by 12 & compare to annual median income for your state
If CMI is higher the AMI, then its assumed youre abusing bkcy process under 707(b)

If CMI is lower than the AMI, you pass means test

o
Currently monthly income is pre-tax income; taxes deducted in expenses part of means test
o
Social security benefits are NOT included in CMI for purposes of chpt 7 means test
Income: if debtors income is low enough, hes exempt from the means test & eligible for chpt 7 - sec 707(b)(2)

o
Step 1: If debtors income is equal to or less than median income of families of same size in debtors state
(based on census figures), then the debtor has passed through median income screen - 707(b)(6), (7)

No presumption of abuse & debtor can file for chpt 7

Household for census counts everyone living in home; bkcy code looks to # of people in family

o
Step 2: if debtors income is greater than median income of families of same size in debtors state, then
more calculations done under 707(b)(2)(A)
After calculating CMI, subtract expenses: cong wanted people to tighten belts & lessen their expenses in bkcy & wanted
a uniform repayment standard which could be applied like a cookie cutter

96

Looked to IRS guidelines for what monthly expenses in different categories people can claim as deductions from
CMI

2005 amendments give ct discretion to increase amount for food & clothing by 5%, if debtor can demonstrate that
such expenditures are reasonable & necessary - 707(b)(2)(A)(ii)

For housing, utilities & transportation, IRS allows a local standard

o
IRS limits taxpayer to lesser of actual expenses or the local standard; bkcy code less clear
IRS Other Necessary Expenses - bkcy cts instructed to deduct amounts for health insurance, disability insurance,

and health care savings accounts (707(b)(2)(A)(ii)(I)), expenses of caring for the elderly (707(b)(2)(A)(ii)(II)) and private
schools, up to 1650/child/yr (707(b)(2)(A)(ii)(IV))

Gen expenses - debtor allowed to deduct any expenses to pay arrearages on priority debts - 707(b)(2)(A)(iv); main
ones alimony & child support & taxes
Other expenses: (1) Actual expenses for elderly/disabled members of household; (2) Admin costs of doing a chpt

13 plan (if eligible); (3) Actual costs of education for minor children (capped at 1775/yr/child); (4) 1/60th of total secured debt
thats due w/in 5 yrs (no cap); (5) 1/60th of total priority unsecured claims

In re Kimbro - debtor entitled to deduct ownership expenses for car hes not making payments on
o
707(b)(2)(A)(ii)(I) states debtors monthly expenses shall be debtors applicable monthly expense amounts
listed in National & Local standards & debtors actual monthly expenses for categories specified in other necessary
expenses by IRS for the area in which the debtor resides
Nothing in statutory language of 707(b)(2)(A)(ii)(I) or Local Transport Standards that require a

debtor to have a lease or debt payment ot deduct a vehicle ownership expense in chpt 7 means test

Means test is bright line test that eliminates judicial discretion

o
Dissent - thinks applicable monthly expenses in 707(b)(2)(A)(ii)(I) implies the debtor is actually
incurring to reduce the debtors CMI
Income After Expenses: Even if debtor has excess income after expenses, chpt 7 might still be available

Final calculation - need to know:

o
Total size of surplus income over 60 month (5 yr) period
o
How much gen unsecured nonpriority debt (credit cards, med bills) that debtor owes
Abuse is presumed:

o
If the debt is greater than 26,300 &

The surplus is at least 10,950 or 25% of the debt OR

o
If the debt is 26,300 or less AND the surplus is at least 6,575
If the surplus is less than 117/month, the debtor passes; no abuse is presumed

If the surplus is b/w 117 & 195/month, he passes if surplus is less than 25% of his unsecured debt divided by 60;
abuse is presumed, but debtor passes the test
o
If surplus is b/w 117 & 195/month & is more than 25% of unsecured debt divided by 60, debtor fails
If surplus is greater than 195/month, debtor fails no matter what

If youre disqualified under means test, its presumed you abused bkcy process
Special circumstances can allow judge to rebut presumption

Great majority of debtors are below median income & dont even go through means test
In 1st 2 years of means test, only 10% had to go through means test & only 10% of those got disqualified from

chpt 7 b/c of means test (around 1% of those filing for chpt 7)

Secured Debts: Cong made special provision that payments debts secured by debtors prop (such as car loans) can be
deducted in full, no matter how large, along w/any payment arrearages - 707(b)(2)(A)(iii)
Cong said debtor can deduct the entire payment to mortgage lender for home loan, whatever it may be
707(b)(2)(A)(iii)

Some cts have allowed debtor to use 707(b)(2)(A)(iii) to deduct payments on cars/home that debtor is giving up in
bkcy
o
Based on premise that means test is mechanical & backward looking to determine ability of debtor to
fund chpt 13 plan as of petition date
In re Skaggs doesnt go along w/idea that debtor could deduct costs of secured debts on prop that they were giving

up in bkcy
o
phrase scheduled as Ktually due refers to schedules & statements accompanying a bkcy petition
o
Eliminates payments for things thatll be surreneded

Means test is meant to be rigid, get to list full amount you pay as part of secured debt & for some other expenses
o
Makes it harder to help sympathetic debtors, but also harder to go against them
Policing Means Test

97

Procedure - law balances 2 objectives: (1) ensuring abuse isnt overlooked while (2) ensuring that claims of abuse are not
themselves abusive
Based on distinction for dismissing debtors cases; whether its b/c they failed the 707(b)(2) means test or whether

there was a finding of bad faith or b/c of the totality of the circumstances under 707(b)(1), (3)

707(b)(6) - permits only a judge or trustee to bring an action on the general standard of abuse for below median
income debtors
707(b)(7) - bars any party, including the judge or a UST, from asserting the means test presumption against below

median income debtors

Every debtor filing for chpt 7 that is above median income debtor has to go through the means test
UST required to look at every case filed by individual debtor to see if the presumption of abuse is triggered & to

file a statement reporting its finding thats sent to every creditor - 704(b)(1)
o
For above median income debtor, UST must file a motion to dismiss or convert to chpt 13 if presumptive
abuse is present, or file a statement explaining why it hasnt done so

Standing to raise question of abuse is limited depending on circumstances of debtor & abuse claimed
o
Above median income debtor is subject to a charge of 707(b) abuse by judge, UST, or any creditor either
b/c debtor failed the means test or b/c of gen abuse - 707(b)(1)
o
Only judge or UST can raise a claim of abuse against a median/below median debtor & only claim they
can raise is gen abuse - 707(b)(6)
If couple files jointly, both incomes count for all purposes; if only one files & the claim is gen abuse, only the

income of the filer is used to determine who can raise objections - 707(b)(6)
o
If only one files & objection is based on the means test, the non-filing spouses income is included for
purposes of determining whether debtor is above/below median income for purposes of continuing the inquiry under the
means test - 707(b)(7)

If the debtor fails the test (ie the debtor & spouse have income above media) only the debtors
income & not that of the debtors spouse is used for working through the budgets & means test - 101(10A), 707(b)
(2)(A)(i)
Role of Debtors Attny - 2005 amendments require debtors attny to certify hes made some investigation of accuracy of
date/docs debtor files about expenses, income, assets, liabilities - 707(b)(4)(C), (D)

526(a)(4) & 707(b)(4)(A) impose new duties on attnys regarding advice attny gives debtor in helping debtor
decide whether to file for chpt 7
o
707(b)(4)(A) - ct can award costs/reasonable attnys fees to a trustee who prevailed on a motion to dismiss
debtors chpt 7 filing as a violation of the means test (707(b)(2)) if debtors attny violated BR 9011
BR 9011 - requires petition be made only after reasonable inquiry & that allegations have a

factual basis; reinforces duties of debtors attny to inquire into underlying facts

707(b)(5) - debtor has power to recover if ct finds creditor/trustee violated BR 9011 or brought
motion solely to coerce the debtor to waive other rights guaranteed under BC
Means Test Reconsidered: Majority of debtors filing chpt 7 have below median income in their states & thus dont have to
deal w/means test

For majority of debtors, problem w/means test is calculating it & litigating it, not living w/it
Even though means test applies to small portion of chpt 7 filers, it imposes costs on all chpt 7 debtors & their

attnys & reshapes bkcy practice

Exempt Prop

Prop Exempt from Seizure

Assets that get distributed to the debtor during bkcy
Every state has statutes that list prop which is exempt from seizure by any creditor (not just for bkcy context)

Different states have very different rules (TX has unlimited homestead exemption)
In bkcy, trustee's job is to marshal all of the debtors assets & distribute them to whoever debtor owes money to

In chpt 7, trustee cant distribute exempt prop to unsecured creditors

Bkcy code has a list of its own exemptions, 522(d)

o
states can opt out of fed bkcy exemptions to have their own apply (522(b)(1))
o
Some states have opted in (ie TX) so they can choose b/w state exemptions or fed bkcy code exemptions
(522(d))

Have to choose b/w one or the other, cant use provisions from both state & fed exemptions
Directed towards making certain that debtors retain enough basic prop to have a chance to make a fresh start post bkcy

Some items of personal prop, like clothes, have little resale value for creditor but are crucial to debtor

98

Law distinguishes b/w seizing prop to satisfy a debt & seizing prop solely to inflict more pain on debtor
As part of granting a security interest, debtor waives exemption that might apply to that prop as to creditor w/security

interest

All prop not listed as exempt is considered non-exempt & will be sold by trustee w/proceeds going to creditors
Fed exemption standards apply unless debtor's state opted out to use their own exemptions; 35 states opted out

In TX, can choose b/w fed & state exemptions

While fed exemptions allow opt out of states, states cant use one set of exemptions at state law & a different set in fed
bkcy proceedings
Many states exempt child support payments from the exemptions; can enforce child support payments against otherwise
exempt prop
Tenancy by entirety - if two married people own a homestead & only one has a debt, creditor cant foreclose on the
homestead

Way to allow unlimited homestead exemption w/o explicitly doing it; just works for married couples w/debt in one
person's name
Texas Exemption Statutes - Tex Prop Code
Dont provide special protection for renters to match homeowner protection

Fed statutes give boost to renters; those who dont claim homestead can claim half the value of the homestead
exemption in other prop (522(d)(5))
When mortgages on homestead are greater/equal to value of homestead, theres no exemption to claim b/c no equity in the
homestead

For debtors w/equity in homestead, homestead matter of critical focus b/c it determines whether they can keep
their house or will be forced to move out
41.001 - Interests in Land Exempt from Seizure

Homestead & one or more lots used for a place of burial of the dead are exempt from seizure, except to the extent
theres a proper encumbrance on the land (ie security interest, taxes, etc.)
Proceeds from sale of homestead are also exempt from seizure for 6 months after sale

41.002 - Definition of Homestead

Urban homestead - can be used as a home or home + place of biz, exemption applies to up to 10 acres (can be one

or more contiguous lot) + any improvements on the land

Rural homestead
o
Family - not more than 200 acres, which can be in one or more parcels, + improvements on land
o
Single adult (not otherwise entitled to a homestead) - not more than 100 acres, which can be one or more
contiguous lot, + any improvements on the land
No dollar limit to value of homestead

41.003 - Temporary Renting of a Homestead

Renting a homestead temporarily doesnt change its homestead character so long as homestead claimant hasnt

acquired another homestead

42.001 - personal prop exemptions
Personal prop in 42.001 is exempt from garnishment, attachment, execution, or other seizure if

o
The prop is provided for a fam & has an aggregate FMV of not more than 60k, not counting any liens,
security interests, or other charges encumbering the prop
o
The prop is owned by a single adult, not a member of a family & has aggregate FMV of not more than
30k, exclusive of the amount of any liens, encumbrances, or security interests

Prop excluded from encumbrances & not included in aggregate amounts of 42.001(a)
o
Current wages for personal services, except for enforcement of ct ordered child support
o
Professionally prescribed health aids of a debtor or dependent of debtor
o
Alimony, support, or separate maintenance received or to be received by debtor
42.002 - personal prop

Prop exempt under 42.001(a)

o
Home furnishing (including heirlooms)
o
Provisions for consumption
o
Farming or ranching vehicles/implements
o
Tools, equip, books, & apparatus (including boats & motor vehicles) used in trade or profession
o
Clothing
o
Jewelry (up to 25% of aggregate amount of limitation)

99

o
o
o

Two firearms
Athletic & sporting equi, including bikes
A two-wheeled, three-wheeled, or four-wheeled motor vehicle for each member of a fam or single adult
w/drivers license or who relies on someone else w/drivers license
o
Animals & feed on hand for their consumption

Two horses, mules, or donkeys + saddle, saddle blanket& bridle for each; 12 cattle; 60 other type
of livestock; 120 fowl
o
Household pets
42.003 - designation of exempt prop
If number/amount of a type of personal prop exceed exemption limits & debtor can be located by sheriff in the
county where prop is located, debtor has to designate which prop will be exempt
42.005 - child support liens
Exemptions dont apply to a child support lien
42.0021 - additional exemption for certain savings plans
In addition to 42.001(a), persons rights to the assets held in or to receive payments, vested or not, under any stock
bonus, pension, profit sharing, or similar plan (ie retirement plan) or under any annuity or similar K purchased w/assets
distributed from that type of plan, under any IRS retirement accounts, is exempt if the plan, K, or account doesnt qualify under
applicable provisions of IRS code
o
Right to assets/payments, vested or not, under a gov or church plan or K is also exempt
Contributions to an IRA, other than a Roth IRA, or an annuity that exceed the amounts deductible under IRS &
any accrued earnings on such contributions arent exempt

TX Insurance Code
885.316 - exemption of benefits
Money or another benefit or charity paid/provided by a fraternal benefit society, b/f or after payment, isnt subject

to attachment, garnishment, or other processes & cant be seized or applied by any legal or equitable process or operation of law to
pay any debt/liability of a member, beneficiary, or any person w/right under the benefit K
1108.0351 -Exemptions for certain insurance & annuity benefits
Applies to any benefits, including the cash value & proceeds of an insurance policy, to be provided to an insured

or beneficiary under
o
Insurance/annuity K issued by life, health, or accident insurance co
o
An annuity or benefit plan used by an employer or individual

Insurance/annuity benefits
o
Comes into operation exclusively for the benefit of the person for whose use/benefit the
insurance/annuity is designated in the policy/K
o
Fully exempt from
Garnishment, attachment, execution, other seizure

Seizure, appropriation, or application by any legal/equitable process or by operation of law to

pay a debt/liability of insured/beneficiary b/f or after the benefits are provided
A demand in bkcy of the insured or beneficiary

1108.051 - Exceptions to Exemptions

Exemptions dont apply to

o
Premium payment made in fraud of a creditor, subject to SoL for recovering payment
o
Debt of insured/beneficiary secured by a pledge of insurance policy/proceeds of policy
o
Child support lien
Valuation of Prop
Need to determine value of prop, not just whether it fits into exempt categories, to see if exemption applies
Partially Exempt Prop - If prop exceeds value of exemption limits in 522, then only the value of the prop to extent of
exemption limits would be exempt

Often trustee would sell prop &, after expenses of the sale, give proceeds to debtor, to extent of exemption, back to
debtor w/remainder going to pay creditors
In re Walsh - value under 522 = FMV as of the petition date

FMV - price at which willing buyer & willing seller would trade
o
Assumes agreement b/w owner willing to sell but not obliged to sell for cash & buyer desirous but not
compelled to buy

100

To determine FMV, take into account all considerations that fairly might be brought forward &
reasonably be given substantial weight in bargaining

FMV must be interpreted in the liquidation context in a chpt 7 case b/c the purpose of valuation under
exemptions is to determine how much trustee will get in a liquidation sale
In re Mitchell - appropriate valuation standard is FMV that incorporates exposure of the item to the appropriate mkt for a
reasonable period of time; debtor couldnt keep jewelry b/c it exceeded exemption limits

In re Walsh doesnt say to use liquidation value per se but rather to look at the applicable market when speaking of
FMV, which is the applicable market available to bkcy trustee
o
By focusing on the market, Walsh ignores the fair in FMV
522. Exemptions
(a) In this section-
(1) dependent includes spouse, whether or not actually dependent; and
(2) value means fair market value as of the date of the filing; for prop that becomes prop of estate after filing,

the FMV at that time

(d) The following property may be exempted under subsection (b)(2) of this section:
(1) The debtor's aggregate interest, not to exceed $21,625 in value, in real property or personal property that the

debtor or a dependent of the debtor uses as a residence

(2) The debtor's interest, not to exceed $3,450 in value, in one motor vehicle.
(3) The debtor's interest, not to exceed $550 in value in any particular item or $11,525 in aggregate value, in

household furnishings, household goods, wearing apparel, appliances, books, animals, crops, or musical instruments, that are held
primarily for the personal, family, or household use of the debtor or a dependent of the debtor.
o
Gives clothing/appliances/pet exemption up to 11,521 total (get double for households under 522(b)
(1))

(4) The debtor's aggregate interest, not to exceed $1,450 in value, in jewelry held primarily for the personal,
family, or household use of the debtor or a dependent of the debtor.
(5) The debtor's aggregate interest in any property, not to exceed in value $1,150 plus up to $10,825 of any unused

amount of the exemption provided under paragraph (1) of this subsection.

o
Wild card - can be applied to any prop (ie stock, cash in bank, etc.); one of more valuable parts of fed
exemption system

(6) The debtor's aggregate interest, not to exceed $2,175 in value, in any implements, professional books, or tools,
of the trade of the debtor or the trade of a dependent of the debtor.
(7) Any unmatured life insurance contract owned by the debtor, other than a credit life insurance contract.

(8) The debtor's aggregate interest, not to exceed in value $11,525 less any amount of property of the estate
transferred in the manner specified in section 542(d) of this title, in any accrued dividend or interest under, or loan value of, any
unmatured life insurance contract owned by the debtor under which the insured is the debtor or an individual of whom the debtor
is a dependent.
(9) Professionally prescribed health aids for the debtor or a dependent of the debtor.

(10) The debtor's right to receive-o

(A) a social security benefit, unemployment compensation, or a local public assistance benefit;
o
(B) a veterans' benefit;
o
(C) a disability, illness, or unemployment benefit;
o
(D) alimony, support, or separate maintenance, to the extent reasonably necessary for the support of the
debtor and any dependent of the debtor;
o
(E) a payment under a stock bonus, pension, profitsharing, annuity, or similar plan or contract on account
of illness, disability, death, age, or length of service, to the extent reasonably necessary for the support of the debtor and
any dependent of the debtor, unless-(i) such plan or contract was established by or under the auspices of an insider that employed the

debtor at the time the debtor's rights under such plan or contract arose;

(ii) such payment is on account of age or length of service; and

(iii) such plan or contract does not qualify under section 401(a), 403(a), 403(b), or 408 of the

Internal Revenue Code of 1986.

(11) The debtor's right to receive, or property that is traceable to-o

(A) an award under a crime victim's reparation law;
o
(B) a payment on account of the wrongful death of an individual of whom the debtor was a dependent, to
the extent reasonably necessary for the support of the debtor and any dependent of the debtor;

101

(C) a payment under a life insurance contract that insured the life of an individual of whom the debtor
was a dependent on the date of such individual's death, to the extent reasonably necessary for the support of the debtor and
any dependent of the debtor;
o
(D) a payment, not to exceed $21,625, on account of personal bodily injury, not including pain and
suffering or compensation for actual pecuniary loss, of the debtor or an individual of whom the debtor is a dependent; or
o
(E) a payment in compensation of loss of future earnings of the debtor or an individual of whom the
debtor is or was a dependent, to the extent reasonably necessary for the support of the debtor and any dependent of the
debtor.
(12) Retirement funds to the extent that those funds are in a fund or account that is exempt from taxation under
section 401, 403, 408, 408A, 414, 457, or 501(a) of the Internal Revenue Code of 1986.

Homesteads, Trusts & Exemption Planning

After a certain point, exemptions mostly benefit the wealthy & provide little benefit to middle/lower income debtors
Two ways rich debtors protect assets: (1) take advantage of large exemptions & (2) exclude certain assets from BE
Can exclude personal prop by use of trusts that show debtor has no remaining legal interest in prop the debtor

nonetheless seems to control & enjoy

Homestead Exemptions - more than 60% of the wealth of most individuals is in their homes
Typically, homestead exempt from execution by creditors up to a dollar amount

o
7 states & DC base exemption on area (ie TX) or some other test
o
FL gives unlimited homestead exemption
Exemption Planning
in states w/unlimited homestead value exemption, debtor has opportunity to do careful planning pre filing
2005 amendments included provision to reduce dollar value of the homestead protection by any amount that is attributable
to otherwise non exempt prop that the debtor disposed of w/intent to hinder, delay, or defraud creditor - 522(o)

Has 10 yr reach back period to catch long term planners

Many conversions of nonexmpt prop are done w/no intent to defraud anyone

Question remains whether planning activities to take max advantage of exemptions are fraudulent or just sensible
Cong added provision for absolute cap on homestead for people convicted of securities violations, fraud in fiduciary
capacity, & handful of other bad acts - 522(q)

Discharge can be delayed to see if the debtor is subject to a proceeding that might give rise to a limitation of
homestead exemption
Cong limited really big homestead exemption to someone who'd owned home for 1215 days - 522(p)

Debtor cant exempt any amount of interest in homestead acquired during 1215 days b/f filing that exceeds
$136,875
o
million dollar homestead exemptions only available to those whove been in their homes at least 3.3yrs
727 - debtor may be denied discharge if he has transferred prop w/intent to hinder, delay, or defraud creditors or has failed
to explain satisfactorily any loss of assets; absolute standard
In re Reed (5th Cir) - converting nonexempt prop to exempt prop w/intent to hinder, delay, defraud creditors or has failed
to explain satisfactorily any loss of assets must be denied a discharge b/c of 727
Bkcy code takes position that conversion of nonexempt prop to exempt prop, w/o more, wont deprive debtor of the

exemption
o
Debtor allowed to convert nonexempt prop into exempt prop b/f filing bkcy petition
o
Practice isnt fraudulent as to creditors, allows debtor to make full use of the exemption to which hes
entitled under law

Debtors entitlement to discharge determined by fed law even if exemption claimed under state law
o
Rs pattern of conduct evidences an intent to defraud creditors
Diverted daily receipts of his biz into an account unknown to creditors & used proceeds to pay a

loan
Moving to Better Exemptions: While cong doesnt cap homestead exemptions overall, it limits the ability of debtors to
move to more generous exemption states & claim those exemptions
11 USC 522(b)(3) - applicable exemption wherever debtor lived for 730 days (2 yrs)

o
Have to live in a state for 2 yrs b/f its exemptions can be used
o
If debtor moved w/in 2 yrs b/f filing bkcy, look back 180 days b/f the 2 yrs to see where the debtor was
for a majority of those 180 days

Can make it difficult for people who move a lot to figure out which exemptions apply
If b/f bkcy, debtor lived in one state for 730 days, use that states exemption

102

If they lived in more than 1 state in prior 730 days, go back another 180 days to see what state the debtor
lived in for a majority of the 180 days b/f the 730 days
Many states only protect homesteads in the j/d or held locally (ie cant use a FL exemption in OR)
o
If debtors not eligible for state exemptions, then fed exemptions apply even if that state opted out
One principal of exemption planning is that pigs get fat, hogs get slaughtered
Can do some exemption planning, but cant do too much exemption planning b/c ct can use variety of techniques

Claims & Distributions

Claims Process - after determining what prop belongs in BE & what prop debtor may properly exempt, trustee begins to
assemble nonexempt prop for sale w/proceeds distributed pro rata to creditors

Proof of claim - creditors must file proof of claim w/in 90 days after 1st creditor meeting - BR 3002
o
For claims based upon a writing, a copy must be attached to the proof of claim application
o
Creditors have to file a proof of claim even if listed in debtors schedules
o
A claim is allowed unless a party in interest objects - 502(a)
If theres an objection, the dispute is resolved as a contested matter, BR 9014, unless objection

seeks relief that would convert the matter into an adversary proceeding under BR 7001

Even though proof of claim process is simple, a lot of creditors never file in chpt 7 cases b/c theres often nothing
paid to unsecured creditors
Sec 501 -procedure for filing a claim
Sec 502 - mechanics of calculating a claim; All prepetition claims, secured & unsecured, begin w/502 calculation
Look at amount of principal owed on the claim, amount of interest pre petition & amount of any attny

fees/collection costs associated w/claim prepetition; Add those up to find value of the claim
Disputed Claims - most claims presented & paid pro rata w/o objection from TIB
Claims satisfied w/o any adjudication over whether the claim is actually owed; parties simply agree

o
Time/money better spent on distributing debtors assets than fighting over claims, from both sides
perspective

Most often when TIB objects to paying, TIB argues theres no valid debt under state law or the amount of debt
claimed is too high
In re Lanza - burden not on bank to substantiate claim but on debtor to refute it; have to overcome presumption of

validity
o
Rationale - BR 3001(f) - proof of claim executed & filed in accordance w/rules shall constitute prima
facie evidence of the validity & amount of the claim

Burden of proof in objecting to claim is not on party making claim but on whoever objects
Bkcy cts frequently resolve disputed claims much faster than the same claims would be resolved in state ct

b/c of transfer of loans from lending institutions to investment companies, its often hard to find paper trail of the
loan & payments made on it
Additionally, creditors can sell accounts after debtor files for bkcy; the new buyer would have documentation of

the total amount due on the claim, but not the break down b/w principal, interest, fees & other costs thats required by bkcy rules
Unsecured Claims
The claim - typiclaly not disputed by TIB or debtor

Interest - unsecured creditors dont get postpetition interest on their claims, 502(b)(2)
o
Interest would be unmatured as of the date of filing & thus not allowed in the claim
Claim w/lump sum interest payment, as opposed to interest calculated over time, would have to

determine what portion was prepetition, matured interest, & what was post petition unmatured interest
o
Dont allow post petition interest for unsecured creditors b/c of pro rata distribution, which doesnt
increase

some creditors have high interest rates by K & others low, allowing post petition interest
wouldnt treat creditors fairly
Accelerated Claims - b/c all debtors obligations resolved in single forum, need to accelerate all pre bkcy claims,

whether theyre matured or not

o
EG might need to figure out how to value guaranteed loan thats not yet entirely due, or debtor injured
someone but the value of that injury has not yet manifested
o
Domestic support obligations are not accelerated at time of filing - 502(a)(5)

Duration & amount of such claims is hard to predict

Secured Claims: The Claim - calculation of claim same as unsecured claims; use sec 502

TIB can raise K defenses to secured claims

103

506 sets out special post-petition/collection rights of secured creditors

506(a) - grants secured creditor an allowed secured claim up to value of the collateral
If claim is less than/equal to value of collateral, the entire claim is secured; fully secured

Excess from sale of oversecured collateral would go to pool to pay unsecured creditors

If claim is undersecured, the remainder of the secured creditors claim would be an unsecured
claim; claim is partially secured
Interest - 506(b) - if loan is oversecured by collateral, creditor can get post-petition interest, generally at K rate, up

to the difference b/w value of collateral on the petition date & amount of the secured claim

Attnys Fees - attnys fees prepetition are treated the same as prepetition interest
o
oversecured creditors may be entitled to postpetition attnys fees; 503 allows post petition attnys fee
claims under special circumstances
Exemptions - valid, unavoidable consensual security interests trump exemption claims

o
Debtor may claim only an exemption in the equity; value remaining after secured creditor is paid in full
Post-petition claims - If claim arises from TIB administering the BE, then itd be a priority claim under 503 as an expense
of admin
o

Discharge & Exceptions

Pecking order on how claimants get paid

Secured creditor
Debtor gets exemptions

1.
Priority claims
1.
Gen unsecured creditors
Discharge - Other than 727 & 523, all disclosed debts are discharged
(c)(1) - if a creditor who has a claim under (a)(2), (4) and (6) doesnt show up & state their claim, then itll be

discharged
Exceptions to Discharge
any amount of unsecured claim not paid in bkcy gets discharged at end of case
Debtor not entitled to discharge as a matter of right; discharge granted unless challenged by creditor/TIB

Can object to particular discharges under 523 or all discharges under 727
o
523 - objection granted only makes one debt nondischargeable; rifle shot denial
Denial of discharge from substantial debt may leave debtor in almost as bad shape as b/f bkcy

o
727 - objection granted renders all debts nondischargeable; global denial of discharge

If theres a global denial of discharge & debtors assets have been turned over to TIB & sold,
theres no relief from debt except by making payments
Its extremely rare to not get a discharge under 727, but still significant b/c threat of it possibly

being asserted

Corps dont get discharges in chpt 7; corp effectively dissolved after case ends
Specific nondischargeable debts - 19 in total, sec 523; creditor must object to discharge or debt will automatically be
discharged; these types of debts are more important than giving debtor fresh start

(a)(1)(A) - no discharge for taxes listed in 507(a)(8)

(a)(2) - wont discharge debts obtained by false reps/fraud made in writing by debtor, unless they go to his financial

condition
o
523(a)(2)(A), (B) require false statement about debtors financial condition be in writing in order to deny a
discharge of the debts
o
In re Sharpe - debtor wont be denied discharge b/c misreps were oral & went to his financial condition

S only relied on Bs oral reps about his financial condition

All of debtors misreps went to his financial condition, which patently dont fall w/in 523(a)(2)

(A)
o
In re Hill - debt dischargeable where bank didnt reasonably rely on debtors misreps in making a
loan/extending credit

Determine reasonableness of reliance based on objective standard; eg reliance reasonable if

lender followed its normal biz practices

If normal biz practices deviate from industry standards or if creditor ignored a red flag,
reliance wouldnt be reasonable

Bank never evaluated the reasonableness of the debtors income & didnt act on red flag
from income disparities in debtors different loan applications

104

Elements of 523(a)(2)(B) - prove by preponderance of evidence

Debtor made written rep about debtors financial condition

Rep was material

Debtor knew at the time rep was made that it was false
Rep was made w/intent to deceive creditor

Creditor relied on rep

Reliance was reasonable

Dmg suffered by creditor proximately resulted from the rep

o
In re Milbank - loans to ex husband based on his affirmation that he wanted to fix marriage while he was
carrying on an affair were nondischargeable
Loans were made in reliance upon Ms reps that were patently false; M used false pretenses,

evidenced by affair, to induce P & S to make loans on false pretenses

Not essential that false pretenses be expressed in words

A deliberately created falsehood is the same as a spoken falsehood

Stability of marriage was a condition upon which P & S relied to their detriment as a result of

Ms false pretenses

(a)(5) - domestic support obligations; even something thats not a domestic obligation might be covered by (a)(15)
(a)(7) - penalties on taxes dont get priority (507), but they also dont get discharged

(a)(8) - student loans not discharged unless excepting such debt from discharge would impose an undue hardship
on the debtor
o
Brenner undue hardship test
Debtor cant maintain, based on current income & expenses, a minimal standard of living if

forced to repay loans

Additional circumstances exist indicating that state of affairs is likely to persist for significant
portion of repayment period
Debtor has made good faith efforts to repay lonas

o
In re Miller - bkcy ct impermissibly used equitable powers to grant partial discharge b/c debtor didnt
meet standards of undue hardship required to get student loans discharged

Can also look to other factors, such as amount of debt & rate at which interest is accruing

Can also consider debtors age, income, earning ability, health, educational background,
accumulated wealth, dependents, professional degree

Can look to see if debtor has attempted to maximize his employment

o
Hornsby - authorized grant of partial discharge of debtors student loans when requirements are met
105(a) empowered bkcy ct to take action short of total discharged

All or nothing approach thwarts purpose of bkcy in student loan cases when undue hardship
doesnt exist but facts/circumstances require intervention in financial burden on debtor
Allowed only when debtors circumstances dont constitute undue hardship as to part of the debt

but repayment of the entire debt would be an undue hardship

Debts obtained by lying on credit application

Luxury goods worth more than 500 obtained w/in 90 days of filing

Fraud by a fiduciary
Judgments resulting from drunk driving/boating accidents

727 - explain satisfactorily test: May mean reasonable or may mean that ct, after hearing excuse, has mental contentment to
say it believes explanation; satisfied, contented, no longer wonders
Full disclosure of facts helps ct believe explanation is satisfactory

727(a)(5) - debtor is granted a discharge unless hes failed to explain satisfactorily, b/f determination of denial of
discharge, any loss of assets or deficiency of assets to meet the debtors liabilities
In re McNamara - debtor who couldnt satisfactorily explain how he lost 130k in poker game was denied a

discharge under 727(a)(5)

o
P has burden of introducing evidence of the disappearance of assets or of unusual trans

Debtor then has burden to explain missing/lost assets

Look at credibility of offered explanation, not the propriety of disposition

An explanation isnt satisfactory if its not offered in good faith or if its vague,
indefinite, & uncorroborated
Standard of proof preponderance of the evidence

Tax Priorities & Discharge

105

Taxes in 507(a)(8)(A-G) - not only given priority in payment, but any unpaid portion of those taxes is exempted
from discharge by 523(a)(1)(A)
Effectively, debtor obligated to pay most income taxes & other taxes notwithstanding any declaration of bkcy
o
If BE generates any money, tax payment receives priority distribution
o
If tax obligation remains, debtor personally obligated to pay balance post bkcy until taxes paid in full
Pre-petition interest on 507(a)(8) claims shares the priority of the claim itself & enjoys its nondischargeable status;
interest on taxes are priority claims & not dischargeable
Post petition interest - doesnt accrue against the TIB & in prop of BE, 502(b), but post petition interest does
accrue against debtor as to any unpaid, undischarged tax debts that survive bkcy
o
Part debtor pay post bkcy is growing during bkcy
Penalties on nondischargeable taxes also are nondischargeable - 523(a)(7), but penalties dont get priority payment
under 507(a)(8)
o
Penalty only dischargeable if related tax is dischargeable
IRS can seize otherwise exempt prop to satisfy nondischargeable tax debts - US v. Rodgers
o
Most attnys advise debtors to pay taxes in full
Bkcy Crimes - no discharge & worse
Conduct which could trigger denial of discharge could also be used as basis for crim charges against debtor
o
Ie concealment of assets, false oaths, false claims, fee fixing, etc made crimes under 18 USC 151-155
Denial of discharge & prison both forms of discipline for bkcy crimes
o
Emphasize that debtors must be fair w/bkcy system to receive its benefits
US v. Cluck - C filed for bkcy but hid assets from creditors; rational jury couldve found C had a plan to make false
statements/deceive bkcy ct
o
circumstances altogether inconclusive, if separately considered, may, by their number & joint operation,
especially when corroborated by moral coincidences, be sufficient to constitute conclusive proof
o
Cs history of coincidental & questionable transfers constitute sufficient circumstances to find intent to
deceive

Redemption & Reaffirmation

Debtors Post Bkcy Position: Reaffirmation

Nothing prevents a person from paying discharged debts after bkcy
Biz has to be careful to not seek out payments for discharged debts

11 USC 524(a) - explains what the discharge does; operates as a permanent injunction
Discharge does not mean debts go away (debts still owed), just means creditor can do nothing to collect the debt

Discharge prevents enforcement of debts

If you had a surety who guaranteed a debt, the surety would still be liable for the debt (provided he did not also get

debt discharged in bkcy)

11 USC 525 - discrim that is illegal under bkcy code
Debts are discharged, but liens are not

Why secured claims survive bkcy

Cant collect the debt, but lien can still be used to foreclose on prop to satisfy lien

When advising debtor, have to figure out what to do w/secured collateral/intention w/respect to prop (521)
o
Debtor has to declare intention w/in 30 days after meeting w/creditors after filing
o
If you dont meet w/creditors, declare intention, & follow through, automatic stay goes away
4 options

o
Surrender collateral, give it to secured creditor
o
Let debt ride through bkcy, informal process (happens almost all the time)

Keep current on payments for secured debt

o
Redeem collateral
o
Reaffirm the debt obligation
Discharge often beginning of maneuvering by disappointed creditors to get the debts owed by debtors reinstated
362 automatic disappears upon chpt 7 discharge, 362(c)(2)(C), and 524 discharge injunction takes its place, 524(a); two
injunctions bookends of chpt 7 case

106

524 injunction, like automatic stay, has potentially unlimited penalties if violated & is enforced summarily by
contempt
o
Designed to shield debtors from collection actions of old creditors to give debtor fresh start
o
In re Paglia - trying to collect from nondebtor who guaranteed loan after discharge doesnt violate 542(a)
(2) discharge injunction
bank did nothing to in any way to collect a soon-to-be discharged debt from debtor or that it

even advised him that he had to execute a second note

Evidence shows debtor acted out of loyalty to his mother when he signed 2nd note the debt to
protect her annuity from being used to satisfy his debts
Most that bank did was accept debtors offer to sign 2nd note

2nd note wasnt a reaffirmation b/c it didnt meet statutory requirements

HOWEVER, 524(c) gives creditors an opening if debtor reaffirms soon-to-be-discharged debt
o
Debt can become enforceable again, notwithstanding discharge, if debtor signs a reaffirmation agreement
subject to terms & procedures of 524(c)
Reaffirmation made b/f discharge

Agreement has to be filed w/ct

Debtor has option to rescind agreement for period of 60 days

Disclosures of interest & fees associated w/reaffirmed debt

Debtor must show through mini budget that he has adequate income (after necessary expenses)

to pay the reaffirmed debt (524(k))

If debtor rep'd by counsel, statement form counsel

Agreement was made voluntarily by fully informed debtor

Agreement doesnt impose undue hardship on debtor/dependents

that attny fully informed debtor of legal effect & consequences

Of such an agreement & any default under such agreement

o
Proper reaffirmation revives the debt & making it (and penalties/interest) fully enforceable in ct
o
If debtor cant afford reaffirmed debt on paper, ct must reject reaffirmation - 524(m)

Ct only reviews cases where debtors not rep'd by counsel

o
Creditors only have to follow reaffirmation rules in a good faithed attempt to comply - 524(l)(3)
Safe harbor provision for creditors who fail to follow rules

o
Credit unions can get debts reaffirmed even if debtor not rep'd by counsel & cant pay for it 524(m)(2)
For debtor w/secured debts, statutes, on their face, offer two alternatives to avoid surrendering collateral
Redeem collateral under 722; make lump sum payment equal to value of asset
o
Make full payment equal to full value of collateral in cash
o
Debtor can redeem w/or w/o creditor approval
o
Only available for exempt prop/prop abandoned by TIB
o
Typically, debtors lack the cash to redeem (must either borrow it or try another method to keep asset)
Reaffirm debt under 524(c) - Negotiate new promise to pay post bkcy w/creditor
o
Debtor signs legally binding agreement to waive effect of discharge pon a giving debt
Can lose collateral & be sued for deficiency if debt not paid off under terms of reaffirmation

o
Can only reaffirm w/creditor approval
Can also ride through based on case law; Debtor not in default at time of filing & continues to make Ktual
payments while creditor does nothing to reclaim collateral
o
Either loan eventually paid off or creditor repossesses collateral
o
Result of discharge is that debtor is relieved of personal liability for deficiency on debt
o
Only allowed in some fed cir
o
De facto retention most frequent way creditors/debtors deal w/collateral post chpt 7 petition
Debtors keep up payments & creditors accept them

2005 Amendments - sec 362(h) & 521(a)(2), (6)

o
362(h) - removes collateral from the BE & lifts the stay unless debtor complies w/521(a)(2) to state an
intention to do one of 3 things & then follow through
Surrender collateral

Reaffirm K w/secured party

Redeem under 722

107

521(a)(6) - similar in intent to 362(h), but has savings clause for debtor I creditor demands more than
original terms

Limited to personal prop (but not cars)

(6) for individuals in chpt 7, they shall not retain possession of personal prop subject to security

interest for the purchase price (in whole or in part) unless the debtor, w/in 45 days of 1st creditor meeting (341(a))
either:

(A) reaffirms with the creditor pursuant to section 524(c)

(B) redeems such property pursuant to section 722

Redeem Collateral - 11 USC 722

Redeeming means that collateral is kept by debtor & debtor just pays what its worth right now
Doesnt have to pay entire amount of debt owed

Avoids foreclosure, but prop either has to be exempt under 522 or abandoned by trustee under 554
Debtor just makes lump sum payment (amount of allowed secured claim under sec 506), replacement value of prop

506 - only secured to extent of value of creditors interest in prop

o
Anything not secured by collateral is an unsecured claim
o
(a)(2) - value with respect to personal property securing an allowed claim shall be determined based on
the replacement value of such property as of the date of the filing of the petition without deduction for costs of sale or
marketing
With respect to property acquired for personal, family, or household purposes, replacement value

shall mean the price a retail merchant would charge for property of that kind considering the age and
condition of the property at the time value is determined.

Key fact is that it doesnt matter what creditor wants; if debtor redeems collateral & makes lump
sum payment, creditor has to accept payment & release lien under 722
Problem is that often people dont have money sitting around b/c they just went through bkcy

Ie - wont have 5k to redeem car to get rid of lien

Reaffirm Debts - 11 USC 524(c)
Can reaffirm either secured or unsecured debt, but mostly done w/secured debt b/c debtor afraid of losing collateral
Reaffirm makes new personal obligation that debtor pays out over time

Has to be agreed to by both creditor & debtor; consensual transaction

Conditions for reaffirmation

Agreement has to be filed w/ct b/f discharge

Debtor can rescind up to 60 days after discharge

Conditions there to make sure debtors are making informed decisions

Debtors attny has to advise them whether to reaffirm debt & file affidavit saying it wont be an undue hardship for

client to reaffirm debt

Have to follow disclosures in 524(k)

Reaffirmation of Secured Debt

Secured debt remains attached to its collateral & can be enforced against the collateral after bkcy even though the
debtor cant be sued for any deficiency
Debtor has significant bargaining power in reaffirmation; if debt not reaffirmed, debt will be discharged

o
All creditor could do would be to try to repossess & sell collateral
o
Creditor must also weigh reaffirmation against costs of foreclosure & repossession & resale value

Debtor must realize secured lender might want to recover attnys fees for trouble/expenses it incurred in protecting
its security interest in bkcy
o
During negotiations, debtors attny can help him figure out if attnys fees are fair & reasonable
If such fees wouldnt be fair & reasonable & would impose undue hardship on debtor, his attny

cant in good faith sign off the fees in his affidavit required by 524(c)(3)

Discharge injunction only prohibits attempts to collect debt as a personal liability of discharged debtor;
collection by seizure/foreclosure not forbidden
521(a)(2) - requires chpt 7 debtor to issue statement w/in 30 days of filing as to debtors intended course of action

w/regard to collateral

In re Pendlebury - cant strike attnys fees from reaffirmation agreement for secured debt b/c parties negotiated for
that; made a new K
o
Reaffirmation essentially negotiation of new K; old K went away
o
Creditor not prohibited for negotiating new terms as a condition of granting reaffirmation

108

Pendlebury shows that reaffirmation is a free market activity; as long as disclosures are made, price for
reaffirmation is subject only to what debtor/creditor will agree to (provided undue hardship, etc. dont exist)
o
Whether its in debtors best interests to reaffirm full amount of undersecured debt may depend on
circumstances
Reaffirmation of Unsecured Debt
Unsecured creditors in worse bargaining position to push for reaffirmation
Debtor might need continued credit from creditor (ie dr) or reaffirm out of gratitude/desire to pay debts
Could reaffirm to protect co-debtor who agreed to guarantee the debt

109

Chapter 13

Intro to Chpt 13
Common elements of consumer bkcy: (1) enforcing auto stay & (2) deciding what is prop of BE
Chpt 13 Adjustment of Debt - Wage Earners Plan - alternative to chpt 7 liquidation for consumers
Differences b/w Chpt 7 & Chpt 13
Chpy 7 debtor essentially freezes all of his assets & debts when he files

o
Assets become prop of BE
o
Debtor keeps assets w/in exemptions & turns over rest to TIB for sale & distribution to creditors
o
In exchange for liquidation, debtor relieved of future obligations to pay dischargeable, prebkcy debts
o
Debtors future earnings are free from reach of prepetition creditors
o
Debtor either surrenders prop subject to valid security interest or continues to make payments to keep it

Chpt 13 focuses on future earnings of debtor, which are used to pay creditors
o
Debtor keeps all of his assets, w/o consideration of exemption lvls, but debtor agrees to turn over a
portion of all future income for at least 3 yrs
When debtor completes agreed payout, remaining debts are discharged

Chpt 13 BE includes all prop & earnings acquired after filing but b/f case is closed - 1306(a)
o
Chpt 13 trustee doesnt have job of collecting, preserving & selling prop of BE - 1302(b)(1)
Chpt 13 TIB charged w/objecting to improper creditor claims

Responsible for ensuring debtor gives up required amount of income

Asserts any objection to debtors discharge

Has duty to assist debtor in performance of debtors duties - 1302(b)(1), (4)

Scrutinizes everyone connected w/case, debtor & creditors, to make sure all follow BC
o
Chpt 13 trustees main duties are in connection w/debtors plan
Expected to recommend approval or denial of confirming plan - 1302(b)(2)(B)

Obligated to ensure payment are commenced w/in 30 days after plan is filed & that payments are
properly distributed to creditors - 1302(b)(5), 1326

Typically, debtor makes lump sum monthly payment to trustee, who distributes money
to creditors based on plan
If debtor misses payments, trustee seeks wage attachment orders (routinely granted)

State law restrictions on wage garnishment inapplicable

o
Debtor in chpt 13 must prepare a plan detailing amounts to be repaid & terms of repayment based on
statutory requirements

Debtor wont receive a discharge unless he makes all payments under chpt 13 plan

In chpt 11, discharge granted upon confirmation of the plan

1322 & 1325 say what must & may be in chpt 13 plan

1322(a)(2) - gives debtor power to use a plan to modify rights of creditors, secured or
unsecured

Can reduce the amount to be paid & stretch out period for repayment
Chpt 13 is payoff bkcy - debtor controls BE, keeps all the prop

Debtor promises to pay creditors from BE or future wages over 3-5 yrs; promise to pay back some of the debt, not
all of it
Debtor gets to make chpt 13 plan

To be approved, plan has to be acceptable under chpt 13

o
No negotiation; debtor sets up plan. If its confirmable, it goes through & creditors dont get any input
In return for paying over 3-5 yrs, debtor gets to keep his prop; exemptions arent as important as in chpt 7

Fewer nondischargeable debts in chpt 13 than chpt 7

Payments under the plan begin 30 days after you file the plan (1326(a)(1))

Chpt 13 trustee keeps payments until after plan is confirmed; trustee takes its fees & then pays creditors
If payments made & plan doesnt get confirmed, then trustee returns money to debtor (1326(a)(2))

Chpt 13 only makes sense for debtors w/income stream sufficient to pay present value of secured debt & good portion of
unsecured debt
Really only good for wage earners; if you dont have a job, really cant file for chpt 13 b/c wouldnt be able to

make payments
Chpt 13 only makes sense for people who need to keep valuable prop
If the prop is exempt, dont have to worry about redeeming/reaffirming in chpt 7

110

A lot of people get pushed into chpt 13 through means test

Chpt 13 is expensive; throughout chpt 13 attny has to prepare & defend plan & trustee takes cut when distributing
payments to creditors

Costs about 2x as much as chpt 7

In chpt 13, sec 1303 gives debtor right to act as a trustee

Ie debtor can bring actions, such as turnover action, that trustee could bring b/c debtor is managing the BE
One of main reasons debtors like chpt 13; debtors have turnover power (542) in chpt 13, which allows them to get

their prop back so they can use it

Drawback of chpt 13 is that a lot of the chpt 13 plans fail
Debtors dont keep up on payments during 3-5 yr period

If plan fails, debtor doesnt get a discharge; everything goes back like it was b/f bkcy
o
Also owe money for time you werent paying off debts while in bkcy process
1303 - gives debtor rights/powers of trustee under chpt 7
542(a) - all parties who have prop of BE have to turn it over to the BE (either debtor or TIB)
debtor proper party to seek turnover under 542(a) b/c prop that debtor seeks can be used in ordinary course of biz
363

Elements of 542(a)
o
Entity has possession, custody, control of prop
o
Debtor may use the prop pursuant to 363
o
Prop has value or benefit to BE
Federal Rule of Bankruptcy Procedure 3015(b): The debtor may file a chapter 13 plan with the petition. If a plan is not
filed with the petition, it shall be filed within 14 days thereafter, and such time may not be further extended except for cause shown and
on notice as the court may direct

If a case is converted to chapter 13, a plan shall be filed within 14 days thereafter, and such time may not be
further extended except for cause shown and on notice as the court may direct.
Plan has to be filed on date of petition or w/in 14 days

Payments to Secured Creditors

For significant assets securing debts (ie cars, homes), chpt 13 plans often built around satisfying those debts so debtor can
retain the prop based on new payment schedule
Two issues for cts when secured creditor wants to repossess collateral; often considered together in chpt 13 cases
(considered separately for chpt 11)

Protection of secured partys interest in collateral while case is ongoing

o
If debtor defaults later on, secured party could be left w/collateral worth less than when case started
o
Providing adequate protection under 362(d)
Concerned w/losing collateral or decrease in its value

Creditor can move to have automatic stay lifted based on inadequate protection; debtor has failed
to protect creditors statutory rights
Adequate payment to secured party

o
Statutory formula calculates min amount debtor must pay to keep collateral
Debtor has right to use trustee's power to recover prop b/c debtor retains prop of BE in chpt 13
Secured Creditors in Chpt 13 & AS 362(d)(2) - if collateral is necessary to reorg, ct will deny lifting AS

362(g) - Debtor bears burden of showing prop is necessary for effective reorg
In re Radden - b/c GMAC will retain lien on collateral & receive payment to extent of value of truck, + interest if plan paid
in full, GMAC is adequately protected; GMAC requires no relief from lifting AS

GMAC had to return truck to debtor; ao long as debtor gets adequate insurance & makes monthly payments under
plan, GMAC is adequately protected
Ct satisfied a car is necessary for effective reorg in todays society; needs prop to get to & from work

General Rule (1325(a)(5) & 506(a)) - debtor has to promise a stream of payments over time equal to the present value of
the allowed secured claim
Secured creditor must be paid its allowed claim in full

It must be paid interest on that claim

o
Prime + proper interest rate method to get to present value under 1325(a)(5)(B) - Till v. SCS Credit
Corp
Formula approach doesnt have expensive evidentiary hearings associate w/it & its an objective

standard

111

o
filing

Dont decide risk %, but its usually b/w 1-3%

Chpt 13 debtors treatment of secured claim under 1325(a) can be confirmed if:
(1) secured creditor accepts plan; (2) debtor surrenders collateral; (3) debtor crams down plan
506(a) states what an allowed secured claim is; 506(a) says claim is secured to extent of value of collateral
506(a)(2) codifies Rash - allowed secured claim is equal to replacement value of collateral as of date of
With respect to property acquired for personal, family, or household purposes, replacement value
shall mean the price a retail merchant would charge for property of that kind considering the age and
condition of the property at the time value is determined.
Value cant be less than liquidation value
Rash didnt give indication of what replacement value means; this is where the key stuff/arguments are
1325(a) (Hanging paragraph) - for purchase money security instruments, cant strip the lien if it was made w/in 1

yr of filing
o
PMSI - get a loan for the money that youre going to use to buy the collateral
o
If its a PMSI for a personal vehicle, cant strip the lien chpt 13 filed w/in 2 1/2 yrs (910 days) of the
PMSI being issued
For cars, PMSI lien stripping exception only applies to personal use cars, not biz use cars

Important to find out why person bought the car

Since most people file chpt 13 to keep their cars, this requirement could sink a lot of chpt 13

plans
Main benefit for debtor is that he gets to strip lien; any amount of debt over value of collateral becomes an
unsecured claim
o
Undersecured claim is bifurcated by 506(a) into a secured & unsecured claim
o
Under 1325(a)(5) cramdown provision, debtor can promise to pay allowed secured claim in full & treat
unsecured part like all other unsecured claims
Under this provision, creditor retains lien securing claim & debtor pays creditors, over life of the

plan, amounts equal to value of collateral at time of filing + interest

Called cramdown b/c it can be imposed over secured creditors objections

If debtor doesnt complete the plan, he doesnt receive the benefit of the cramdown

Debt wont be discharged & secured creditor will able to enforce its security interest
w/regard to all of the unpaid debt - 1325(a)(5)(B)(i)

If debtor makes it through plan, the unpaid, unsecured portion of lien will be discharged along
w/other unpaid, unsecured debt
506 valuation done at replacement value when cramming down chpt 13 plan under 1325
Associates Commercial Corp v. Rash

506(a) - in cramdown case, value of prop (& thus amount of secured claim) is amount
willing buyer would pay willing seller for asset

1st sentence of 506(a) tells ct what it must evaluate, but doesnt say anything
about how to value collateral
Disposition or use in 506(a) turns on alternative debtor chooses after creditor

rejects plan for purposes of 1325

Applying foreclosure value when debtor chooses cramdown attributes

no significance to debtors choice to keep prop instead of retaining it
Replacement value standard distinguishes b/w retention &

surrender of prop & makes "disposition or use" have meaning in 506(a)

Replacement value accurately gauges debtors use of prop

Actual use, rather than foreclosure, is proper guide under prescription hinged
to props disposition or use
o
Cramdown applied to all secured debt, except home mortgages
o
2005 amendments to 1325(a) may have exempted certain security interests from cramdown rule
Any PMSI granted w/in 1 yr b/f bkcy is exempt

If secured creditor objects to the plan, debtor who wants to keep collateral must pay
debt in full

Holder of PMSI for motor vehicle granted w/in 2 1/2 yrs (910 days) of petition is exempt
o
b/f 2005 amendments, attraction of chpt 13 was that it allowed debtor to keep car & only have to pay for
FMV on date of filing
1325(a)(5)(B)(iii) - requires adequate protection for secured creditors

112

o
o

1326(a)(1)(C) - make adequate protection payments directly to creditor

Significance of allowing creditors to get their allowed secured claim

Lien gets stripped down just to the value of the collateral; any amount of lien over value
of secured collateral would become an unsecured debt
Present value of allowed secured claim reflects idea that paying money in 5 yrs is not

the same as paying the same amount now

o
Creditor cant use money right away, inflation could reduce value, and theres a risk of nonpayment
o
Any time theres calculations under 1325(a)(5), theres the allowed secured claim + an interest %

National prime rate + some amount of risk (1-3% normal),

Often, collateral will depreciate as bkcy goes on; creditor can demand adequate
protection/assurance

Under 362(d), creditor can ask for automatic stay to be lifted

Can ask for accelerated payments to make sure secured creditor is adequately protected

in case collateral is going to quickly depreciate in value

Payments on Home Mortgage

Cramdown doesnt apply to home mortgages - Nobelman v. American Savings Bank

Debtor can stop foreclosure under automatic stay (362) & are allowed to cure the default w/in a
reasonable time (1322(b)(5), (c))

over a reasonable period of time

Benefit to debtors is you dont have to cure pre-bkcy default immediately, can do it
Only relief in chpt 13 as to a home mortgage is to cure & maintain if you cant pay off loan w/in

term of plan - 1322(b)(5)

come due

Catch up on past due arrearage while making current payments on mortgage as they
No reduction in amount you owe just b/c house is worth less than the loan
1322(b)(2) - cant strip the lien of a secured claim secured by debtors principal residence
Can strip liens of 2nd mortgages that are not secured by any collateral b/c of 506
If all of collateral value eaten up by 1st mortgage, then could strip entire 2nd mortgage
101(13)(a) - mobile homes can count as debtors principal residence
Litigation in chpt 13 cases over home mortgages often involve 2 problems
In short term, saving home from foreclosure sale
In long term, proposing a plan to comply w/strict limits of chpt 13 to protect rights of

mortgagees

In re Taddeo - Believe power to cure any default in 1322(b)(3), (5) isnt limited by ban
against modifying home mortgages in 1322(b)(2) b/c curing defaults & maintaining payments doesnt modify mortgage

Holding - Ts can cure default & reinstate mortgage; relief from AS denied
Rationale - when cong allowed debtors to cure defaults, it allowed them to deaccelerate

mortgages
o
Power to cure must comprehend power to deaccelerate

Curing default commonly means taking care of the triggering event & returning to predefault
conditions; consequences nullified
w/o power to deaccerlate, thered be costly & wasteful races to ct house to file & itd put debtors

at a disadvantage in comparison to sophisticated lending institutions

Allowing debtors to cure by paying arrearges & thus deaccelerate loan would encourage more
parties to negotiate in good faith
Cong gave homeowners right to deaccelerate in 1994 amendments, 1322(c)
Some cts read 506 & 1325 to allow for stripping down 2nd mortgage that is entirely unsecured
Take position that wholly unsecured 2nd mortgage is no longer under protection

afforded mortgages in real prop that is the debtors principal residence

Payments to Unsecured Creditors

Pre 2005 law applies to below median income debtors

General unsecured creditors either get full payment or they get 100% of debtors
disposable income over next 3-5 yrs
o
Debtor chooses how long plan will be

113

Disposable income (1325(b)(2)) - current monthly income received by debtor less

amounts reasonably necessary to be expended
Test for below median income - have to show unsecured creditors got more in chpt 13

than they would in chpt 7

o
Can be based on judge's perception on whats a necessary expense

Chpt 13 plans fail often b/c judges have unrealistic expectations for how people can live & how
much they can pay off
Debtors in chpt 13 must pay secured creditors full amount, present value, of allowed secured
claim in their plans

All priority claims under 507 also have to be paid in full - 1322(a)(2)
Gen unsecured creditor claims pooled together & paid pro-rata share by debtor

Unsecureds can recover more by forcing debtor to make more available to all gen
unsecureds
1325 - requirements

Best interests test 1325(a)(4), (a)(5)(B) - requires each creditor, secured/unsecured,

receive at least as much as the creditor wouldve in Chpt 7
Disposable income 1325(b)- debtor must devote all of his disposable income to the

plan, during the life of the plan, to pay creditors

Good faith 1325(a)(3) - plan must be proposed in good faith & not by any means
forbidden in law
Disposable Income - start screening w/median income test from Chpt 7 Means Test

1325(b)(4)(A)(ii) - For this test, married debtor who files alone must still include the
spousal income in determining whether the debtors income is above state median
Below median debtors - income debtors who file for chpt 13 governed by reasonable

& necessary test for disposable income

o
1325(b)(4) - Only have to propose 3 yr repayment plan
o
Calculate disposable income by deducting necessary expenses from income
o
In re Carter

Facts - C married & lives w/husband as tenants by entireties

Unsecured creditor filed foreign judgment for 255k against C & husband b/f C filed

Debtor listed monthly income of 600 & expenses of 500 for herself alone; didnt
include husbands income or expenses; plan would pay 75/month for 36 months
Issue - what is the role of a nondebtor spouses income when a married person individually files

for bkcy under chtp 13

Holding - its fair & equitable for Mr Cs incomes & expenditures to be included in the schedules
& have an effect upon lvl of payment expected from debtor to get confirmation

Dont confirm plan

Rationale - if unsecured or trustee objects to debtors chpt 13 plan that doesnt repay unsecured

in full, plan can only be confirmed if it provides for debtor to commit all of his disposable incomes for 3 yrs to plan
payments - 1325(b)(1)(B)

Disposable income 1325(b)(2)(A) - income received by debtor thats not reasonably

necessary for support of debtor/dependents

Look at debtors basic needs for support, unrelated to debtors former

lifestyle/status

For married debtors filing individually, look at family budget & income, including
income/expenses of nonfiling spouse b/c nonfiling spouses income is available to defray costs that filing
spouse would otherwise have to pay, freeing a larger portion of the debtors separate income to pay unsecureds
o
In the Matter of Wyant
Holding - dont confirm plan

Appropriate for debtor to spend 100/month of feed/vet expenses, freeing up income so

debtor can pay 1300/month for 36 months

Rationale - debtor doesnt propose to pay disposable income to trustee as required by 1325(b)
(1)(B)

Proposed expenditures on vet expenses for livestock, while commendable, cant be

approved at expense of creditors
o
Univest-Coppel Village, Ltd. v. Nelson
Ns paying 395/month for private school & creditor objected to expense

114

Even though daughter was adamant about not changing schools b/c she was only freshman on
cheerleading squad, dist ct said she had to go to pub school & disallowed the expense.
Above median debtors - have to propose 5 yr plans, 1325(b)(4)
o
Plan has to be 5 yrs long (1325(b)(4)(A)(ii))
o
1325(b)(3) - determine reasonable expenses based on means test, whatever the surplus over expenses
(disposable income) is used to determine what debtor pays each month
b/c chpt 7 means test applies, if debtors wouldve been barred from chpt 7 b/c of surplus income

over expenses, amount they pay in chpt 13 plan not based on reasonable & necessary
o
Priority creditors under 507 have to be paid in full for plan to get passed (1322(a)(2))

Dont have to pay interest to priority creditors, one of main reasons people file chpt 13

Stop tax debts from accruing interest

A lot of people wont have their chpt 13 plan confirmed b/c they wont be able to pay all priority

unsecured debts

Wouldnt have bkcy relief b/c means test would kick you into chpt 13 but then cant get
confirmed in chpt 13 b/c too much priority debt
o
Cant discrim unfairly against classes of unsecured creditors in the plan (1322(b)(1), (5))

Cant give preference to nondischargeable debts at the expense of dischargeable debts

o
Attnys must determine if these debtors have surplus income according to presumptive abuse test of
707(b)(2)(A), (B)
o
In re Kagenveama - applicable commitment period doesnt apply to a plan submitted voluntarily by
debtor w/no projected disposable income
if TIB/unsecured objects to chpt 13 plan that doesnt pay unsecureds in full, ct can only confirm

it if it pays all of debtors projected disposable income received during applicable commitment period to satisfy
creditors - 1325(b)(1)

Projected disposable income - disposable income projected out over applicable commitment
period
Revised disposable income test uses formula to determine what expenses are reasonably

necessary - 1325(b)(2), (3)

Reps a deliberate departure from old disposable income calc, which was bound up in
facts & circumstances of debtors financial affairs

Wont decouple disposable income from projected disposable income calc simply to get at a more
favorable result for unsecureds when plain text of statute links the terms
o
Disposable income for above median debtors about IRS guidelines as modified by 707(b)(2)
o
1325(b)(2) provides additional deductions for domestic support & certain charitable contributions
Also allows deduction of costs of doing biz for debtors continuing to operate their own biz

o
Amount above median income debtor pays is limited strictly by means test surplus

Secured debt can sop up a great deal of income (ie big house/car payments) leaving very little
for gen unsecureds - 1325(b)(3)
o
In re Farrar-Johnson - above median income debtor filed for bkcy w/53k in credit card debt
Deducted 1100/mth for housing allowed by IRS when living cost free on military base

Holding - expenses must be calculated under 707(b)(2); actual expense, outrageous or not, is
beside the point
Once bkcy code says a debtor can deduct an expense, ct wont look any further

Priority Claims - Family Support, Taxes, Etc.

Priority creditors under 507(a) get paid in full in chpt 13 plan - 1322(a)(2)
Priority Repayments in General - some debtors pay 507(a) admin expenses in their chpt
13 plans
o
May pay filing fee as a priority repayment or pay their attnys in chpt 13 (depends on j/d)
o
Many debtors owe alimony/child support when they file, which get paid in full b/c theyre priority claims
under 507(a)(1)
Trustee often takes over job of collecting support payments & distributing them

Cant pay other creditors & stiff the ex; in order to continue plan payments, debtor must
necessarily be current on all support obligations
o
Unless priority creditor waives right to full payment under plan, all priority claims must be paid in full,
no matter where in the order of priority claims it falls
o
Disposable income is a floor; min amount debtor must pay
It doesnt act as a ceiling on the total debtor must pay

115

If debtors disposable income isnt enough to pay all secured & priority claims, then he cant
confirm chpt 13 plan

May have to give up some of his secured prop or cut back on expenses or file for Chpt
7 if eligible
o
Its possible to have income too high for chpt 7 & yet have too many secured debts/priority claims to get a
chpt 13 plan confirmed
Secured debt payments may provide enough deductions under 707(b)(2)(iii) to get into chpt 7

Tax Claims - chpt 13 gives two advantages for debtors burdened by tax claims
o
Get to pay taxes over time w/AS holding off IRS
o
Denial of post petition interest on unsecured claims locks the tax claim at its value as of petition date 502(b)(2)

Stopping accrual of interest may be only way taxpayer/debtor has a chance to catch up on what
he owes
o
If debtor goes into bkcy b/f IRS files a lien, tax claims are unsecured
Also, if tax claim exceeds value of the lien, or if lien secures some taxes but not others, therell be

an unsecured tax claim

AS stops IRS from taking any further collection actions, including acquiring additional liens
o
Unlike secured claims, priority claims arent paid in present value
Debtor just has to pay face value of priority claim - 1322(a)(2)

Means interest on taxes REALLY stops when petition is filed

o
Chpt 13 debtor ultimately hopes to repay in full all taxes subject to a lien under 506(a) or entitled to
priority under 507(a)(8) & at end of bkcy, theres a discharge of most remaining taxes & most other dischargeable debt 1328
Good Faith - BC requires plan be proposed in good faith - 1325(a)(3)
Trustees challenges plans where above median income debtors take large exemptions
under IRS standards or calculate incomes based on 6 months b/f filing rather than projected income b/c of lack of good faith
In re Farrar-Johnson
o
Holding - b/c there were no defects in debtors disposable income calc, & b/c any defects wouldnt show a
lack of good faith, wont dismiss bkcy case
Above median income debtors allowed to take housing deduction under IRS standards even

though they lived rent free on military base

If obligations owed to secured/priority claims take up all the disposable income, there
may be nothing left for unsecureds, but that wouldnt necessarily be a bad faith plan
Modification/Dismissal of Chpt 13 Plan
When income/expense projections turn out to be wrong, debtor, trustee, or creditor can
move to have chpt 13 plan modified or dismissed - 1329(a)
Bkcy code limits chpt 13 plan to 5 yr (60 month) max - 1322(d)(1)
o
If plan is modified, it must still fall w/in 5 yr limit; dont get to start a new 5 yr plan upon modification
o
For above median income debtor, plan has to be 60 months; if the debtor has trouble making payments,
they have to make up deficiencies b/f plan period expires even though all disposable income is already going to the plan
payments
Creditors/trustee can bring in evidence of increased income for debtor to get plan
changed so debtor has to make higher monthly payments
o
Debtors must file annual financial updates if judge/party in interest requests it
o
Creditors can discover increased income for debtor & ask judge to take it all
If bkcy petition gets dismissed b/c debtor doesnt get plan confirmed/doesnt keep up
w/payments under plan, then debts dont get discharged & automatic stay is gone
o
1328(b) - can try to get a best efforts discharge
3 requirements

Debtor paid out what creditors wouldve gotten in chpt 7

Circumstances beyond debtors control prohibit completion of plan

Modification of the plan is impossible

More often than not, debtors or creditors try to modify plan under 1329
o
Change amount paid to a class
o
Change time frame for completing plan (increase plan to 5 yrs)
o
Change amount paid to a particular creditor based on someone being paid outside of plan

116

Only time you can modify is for cause; Have to convince judge that change is
necessary & plan couldve been passed in the first place, limits types of changes debtor can make

Threshold Eligibility for Chpt 13

Sec 109(e) - limits chpt 13 to natural persons w/ltd debts & regular income
creditors who want to liquidate/foreclose on assets can contest chpt 13 eligibility
Debts measured on date of filing the petition
Regular income - source of income just has to be regular/stable enough to fund plan - In re

Murphy

Facts - debtor lives w/boyfriend who pays her bills/deposits money in her bank
account; hasnt had a regular job in a while
o
Judgment creditor being lien stripped in plan challenged debtors eligibility based on no regular income

Holding - debtor can use 522(f) 4k car exemption to partially avoid judgment lien;
lien remains on car to extent of value in it over the 4k exemption & 5700 1st lien

Rationale - 101(30) - existence of regular income a fact question, look at flow of

money available to debtor
o
Just b/c theres no legal right/duty for someone to provide income to debtor doesnt mean it isnt income

In re Duval - said allowance from live in boyfriend wasnt regular income for chpt 13
debtor; didnt matter itd been going on for 10 yrs

Regular might mean something other than getting income once a month
109(e) - to be eligible for chpt 13, debtor must have noncontingent, liquidated unsecured debts
below 360k

debt 101(12) = liability on a claim

claim 101(5)(A) = right to repayment, whether or not such right is reduced to judgment,
liquidated, unliquidated, legal, equitable, secured, unsecured

Having ton of contingent, unliquidated debts is fine

Cant have more than 1.081mil in secured debts (determined to extent of value of
collateral, not face value of loans)
Chpt 13 blocks those owing large amt of debt; have to choose b/w chpt 7 & chpt 11, but both
have ltd access to natural persons

1129(a)(15) - requires application of chpt 13 disposable income test in chpt 11 case

involving natural person
o
Everything debtor earns after filing is prop of BE w/debtor getting living allowance, 1115, 1306(a)
o
Chpt 11 requires 5 yr plan regardless of whether debtor is below or above median income
o
1325(b)(2) test for disposable income for below median debtors applies in chpt 11
unclear if the IRS standards apply to above median income debtors or if 1325(b)(2) applies to

them as well
o
Chpt 11 plans have to be approved by ct & creditors, less attractive than chpt 13
Liquidated v. unliquidated

Liquidated - a claim is liquidated if its subject to ready determination & precision in

computing amt due
o
Key factor in distinguishing liquidate/unliquidated - whether the process for determining the claim is
fixed, certain, or otherwise determined by a specific standard
not extent of dispute/amt of evidence required to establish claim

o
Dont take into account issue of liability in determining whether claim is liquidated/unliquidated - In re
Huelbig

Facts - debtors owed insurance co $ stemming from fraud (civil & crim); file chpt 13 after crim
fine imposed, civ case ongoing
Holding - b/c claims could be calculated by counting up fraudulent charges, insurance co claim

was liquidated

Three tests for liquidated - In re Huelbig

o
If its easy to figure out the amount of the debt/doesnt involve analyzing lots of facts, then debt is
liquidated
o
if theres some set standard to figure out how much is owed, then its liquidated
o
If liability is contested, then its unliquidated

Unliquidated - amt of debt is in dispute even if liability for the debt has been admitted;
amt of debt not certain until cts/parties take further action

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Contingent v. noncontingent - contingent debts are dependent on the occurrence/nonoccurrence

of a particular event

noncontingent
o

contingent
o

Noncontingent - if all events giving rise to liability occurred b/f filing bkcy, the debt is
Contingent - obligation reliant on a future event occurring that bring liability into being
eg - paying bet on a game that hasnt happened; paying guarantee on someone else's debts
ie guarantor on loans only pay if person primarily liable doesnt pay, debt would be
Obligation to pay doesnt mature until condition is met
Is a debt based on PI, where suit has yet to be filed, noncontingent or contingent?
Event that made D liable is causing PI, not being found liable in suit
Cts say its not the suing that creates the debt, its the event that caused the injury
Whether or not youre liable isnt test for contingency, its whether event occurred
Identifying Types of Claims
Only debts that count towards eligibility cap are BOTH noncontingent AND

liquidated
Cts may consider merits of claims at threshold in ltd class of cases where claim is far

fetched - In re Ho
o

Done so creditor cant block a chpt 13 by presenting spurious claims

No requirement that bkcy is available to everyone; debtor might be ineligible for chpt 13 & 7

& 11
Consumer Bkcy Policy

Bkcy doesnt prevent people from getting credit

Sometimes have better access to credit b/c CC companies know you cant get bkcy relief

for 8 yrs

Interest rate would be higher, but subprime/high risk creditors serve people who've just

filed for bkcy

Person's other debts are all gone, not like theyve got any other outstanding debt
Have to know the judge that you're in front of
Supposed to be a uniform code, but extremely non uniform b/c the judges are all
individuals making personal decisions about how to apply code/what personal expenses are allowed/etc.
Theories
Two stages in consumer credit process: (1) b/f debts incurred & (2) after debts
incurred
o
Debt incurrence stage - concerned about debtors taking on more debt than they can afford & irresponsible
mkting of credit
o
Post incurrence stage - fear debtors who can pay off their debts will file & that others denied bkcy will be
left indefinitely in an unproductive & pointlessly cruel financial quagmire
Some feel debtors should be freer to waive bkcy & to K w/creditors for individual post
default plans
Consumer bkcy as insurance - cost of credit greater b/c creditors must account for risk
of discharge at time credit is extended
o
Any increased cost of credit is premium that all borrowers pay for protection in bkcy
o
Argued this creates moral hazard as consumers might incur more debt than they can handle b/c they know
theres bkcy protection
Bkcy as social safety net - b/c US has less protection/programs for those who are
unsuccessful economically, it has more need for consumer bkcy laws than other countries w/universal health care, subsidized
housing, etc.
Scholars focus on pre-incurrence b/c evidence shows that once debts are incurred,
debtors who file bkcy simply cant pay
Policy Debates
Increase in consumer bkcy filings main impetus of 2005 Amendments to BC
o
Debate over what caused increase in filings: change in econ system or change in attitude of borrowers, or
a debtors who are able to pay filing for bkcy
Irresponsibility - argue irresponsible conduct, either by debtors incurring debts or
creditors in extending loans, leads to bkcy
o
Aggressive mkting of credit allows people who cant afford it to wrack up massive amts of debt

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Once borrower defaults, interest & penalty fees make it nearly impossible to catch up
Sweat box theory - gap b/w retail cost of money & revenues from high interest rates/fees makes
consumer lending so profitable that a creditor can make money if a debtor makes payments for a few months, even if
balance of loan is eventually written off
Amt of debt written off/discharged often comes only from the additional profits creditor would

otherwise have collected

Econ forces - argue bkcy results from mkt changes/econ forces beyond debtors control
(ie health problem, lost job, etc)
Loss of stigma - increase in filings due in part b/c filing bkcy not looked down on as
much as it used to be
Increased advertising - more ads for consumer bkcy has helped increase # of filings
2005 Amendments & Changing Bkcy System
Recoveries for Creditors - premise of 2005 amendments was that by steering debtors
into chpt 13, it would generate greater recoveries for creditors
o
Many chpt 7 debtors redeem/reaffirm/ride through claims or theyre nondischargeable, allowing creditors
to recover
o
In chpt 13, many plans never get completed & those plans that do complete pay substantially less than
100%
o

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