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EXECUTORY CONTRACTS

-Suppose a contract between Seller and Buyer provides for a sale
of goods to be paid for at the time of delivery by Seller. What
are the rights and obligations of the parties if either goes into
bankruptcy while the contract is unperformed and before the time
performance is due?

-Because claim is defined in §101 in broad terms to include any
right to enforce an obligation of the debtor so long as breach of
that obligation gives rise to a rights to payment, Buyer has a
claim in the bankruptcy even though the claim is unmatured. §365
governs this situation. It states rules that empower a trustee in
bankruptcy (including a debtor in possession), with approval of
the bankruptcy court, tto “assume or reject any executory
contractt or unexpired lease of the debtor.” (§365(a)).
Assumption, however, is not necessary to give the estate the
benefit of the contract. Seller’s rights here to sell goods to
Buyer and receive payment from Buyer under the contract are “legal
and equitable interests of the debtor in property” that become
property of the estate under §541(a)(1). Although Seller’s filing
in bankruptcy gives the estate Seller’s right under the contract,
the estate is not bound to perform the contract because the estate
did not agree to perform it. The contract is Seller’s obligation,
not the estate’s obligation. But Seller, as debtor in possession,
must decide whether this obligation of Seller will or will not be
performed by the estate. If the decision is to have the estate
perform the contract, the contract must be assumed. The effect of
assumption is to convert the obligations of Seller under the
contract into obligations of the bankruptcy estate. After
assumption, if the debtor in possession fails to perform in
compliance with the contract, Buyer has a right to payment of an
administrative expense for damages for breach of contract. If the
decision is not to assume the contract, the contract must be
rejected. Rejections is treated by §365(g) as a breach of
Seller’s contract because rejection means that Seller’s
obligations under the contract will not be performed. Buyer has a
claim in bankruptcy for breach of contract (§502(g)).

-A decision by the debtor in possession to assume or reject
because it believes there is a business advantage in doing so must
be accepted by the court unless it is shown that the decision was
made in bad faith or in abuse of discretion. This is called the
“business judgment” rule.

-An executory contract (defined by Professor Vern Countryman) is:
A contract under which the obligation of both the bankrupt and the
other party to the contract are so far unperformed that the
failure of either to complete performance would constitute a
material breach excusing the performance of the other.
-According to this definition, a contract cannot be executory
under §365(a) if either the debtor or the other party to the
contract has fully performed its obligations under the contract.
Thus, a contract is not executory within the meaning of §365(a)
unless it is executory as to both parties.

-A contract is not executory as to a party simply because the
party is obligated to make payments of money to the other party.

-The trustee has a number of options:
-Assume
-First, court must approve the motion to assume.
-contract can only be assumed if it exists. (so, can take actions
pre bankruptcy to get out of the contract.)
-under 365(b), if contract is in default, debtor has to do several
things before it can be assumed:
1) cure default
2) compensate non-debtor party for damages
3) give assurance of future performance
-once assignement has been approved, estate is no longer liable on
that contract.
-obligation then, becomes estate’s obligation. Thus, claims on
that contract would be administrative expenses (which have
priority of payment.)
-Reject
-court approval is often required for rejection
-sometimes, dues to time expiration, rejection is automatic
-the standard for rejection is the business judgment rule
-Assign
-Do Nothing (limbo)
-The law is tthat pending assumption or rejection, the contract
remains in effect.

-The process is two steps:
1) determine whether the contract is executory.
2) whether its rejection would be advantageous to the bankrupt.

-If assume or reject:
-there is a 60 day rule in Chapter 7 cases. Leases and executory
contracts that are not assumed within 60 days after the order for
relief are deemed rejected [365(d)(1)].

-365(d)(4) provides the same 60 day time limit in Chapter 11 and
13 cases for leases of non-residential real property. There is no
time limit in Chapter 11 or 13 cases for the assumption or
rejection of residential leases, personal property leases, or
other executory contracts.

FRANCHISE AGREEMENTS AND LICENSES OF INTELLECTUAL PROPERTY

-In Re Rovine Corp (page 317)
ISSUE: May a party to an executory contract, rejected by a
debtor-in-possession pursuant to §365 of the Code, compel
enforcement of a provision of that contract which restrains said
debtor from competing with that party?
HELD: An executory contract must be rejected in its entirety or
not at all. Here, the covenant not to compete was a part of the
franchise agreement. Since the franchise agreement has been
rejected by the defendant as an executory contract, the covenant
not to compete must also be deemed rejected.

-§502(g) grants plaintiff a nonadministrative claim based upon the
rejection of the franchise agreement. Any damages incurred by the
plaintiff as a result of the rejection would constitute a “right
to payment” sufficient under §101.

-Lubrizol Enterprises Inc. v. Richmond Metal Finishers, Inc. (page
322)
When considering a request to assume or reject an executory
contract or an unexpired lease, courts generally apply the
business judgment rule and approve the decision of the trustee or
debtor in possession unless there is bad faith or a gross abuse of
discretion.

-Here Company A had given nonexclusive licensing agreement to B.
A declared bankruptcy, and wanted to reject the agreement and
prevent B from using the technology. Court held for A (silly
decision)

-The Intellectual Bankruptcy Protection Act, enacted in 1988,
overturns Lubrizol by adding subsection (n) to §365 which allows
licensees to retain rights in intellectual property conveyed to
them before the licensor’s bankruptcy.

CONTRACTS NOT ASSIGNABLE UNDER NONBANKRUPTCY LAW

ASSUMPTION

-Mattter of West Electronics (page 330)
Where applicable nonbankruptcy law excuses the nondebtor party
from accepting performance from, or furnishing performance to, an
entity other than the debtor or the debtor in possession, the
contract or lease may not be assumed or assigned by the trustee
unless the nondebtor party consents. Likewise, a debtor in
possession is prohibited from assigning such a contract or lease
without the other party’s consent.

-Here, the government, under applicable nonbankruptcy law, would
have to consent to an assignment of the West contract to a third
party, then West, as the debtor in possession, cannot assume that
contract.

ASSIGNMENT

-§365(f)(1) allows the trustee to assign an executory contract
notwithstanding a provision in the contract or in “applicable law”
prohibiting the assignment. But a contract cannot be assigned
unless it has been assumed. §365(f)(2)(A). Thus, a contract that
cannot be assumed under §365(c)(1) cannot be assigned. Moreover,
365(c)(1) applies both to assumption and assignment and 365(f)(1)
is specifically made subject to 365(c).

-In re Pioneer Ford Sales (page 337)
365(c)(1)(A) refers to state laws that prohibit assignment
“whether or not” the contract is silent, while 365(f)(1) contains
no such limitation. Apparently, (f)(1) includes state laws that
prohibit assignment only when the contract is not silent about
assignment (state laws that enforce contract provisions
prohibiting assignment.) These laws are to be ignored. The
section specifically excepts (c)(1)(A)’s state laws that forbid
assignment even when the contract is silent; they are to be
heeded. Here, contract for Ford dealership was non-assignable to
a Toyota dealer

-365(c)(1)(A) is not limited to personal service contracts.

ENFORCEMENT OF EXECUTORY CONTRACT BY BANKRUPTCY ESTATE BEFORE
ASSUMPTION OR REJECTION

-Matter of Whitcomb & Keller Mortgage (page 343)
In a case under Chapter 9, 11, or 13, the trustee may assume or
reject an executory contract or unexpired lease of the debtor at
any time before the confirmation of a plan, but the court, on
request of any party to such contract or lease, may order the
trustee to determine within a specified period of time whether to
assume or reject such contract or lease. [§365(d)(2)]

-In a case under Chapter 11, 12, or 13, the nondebtor party may
request that the court direct the trustee or debtor in possession
to elect either to assume or reject an executory contract or an
unexpired lease of personalty or residential realty within a fixed
period of time.

-Under 365(d)(4), a nonresidential lease is deemed rejected by a
debtor-lessee unless that party assumes the lease within 60 days
after filing for Chapter 11 protection or within such additional
period as is fixed by the bankruptcy court.

–In Chapter 7 cases, the trustee has sixty days after the order
for relief within which to assume or reject an executory contract
or an unexpired lease of personal property or residential real
property. Otherwise, the contract or lease is deemed rejected.
The court may extend this period for cause.

-If, during the sixty days following the order for relief, the
Chapter 7 trustee retains the subject mattter of an executory
contract, or personal property or residential real property under
an

unexpired lease, the nondebtor party is entitled to an
administrative expense, but only to the
extent of any actual benefit to the estate.

LEASES

REJECTION BY DEBTOR IN POSSESSION AS LESSOR

-In cases involving bankrupt lessors of real property, 365(h)
gives to the lessee rights comparable to the rights given by
365(i) to a buyer under a land sale contract. The lessor, as
debtor in possession, can refuse to perform collateral services
such as providing heat, utilities, property maintenance and the
like, but the debtor in possession cannot deprive the lessee of
the leasehold that was already granted [can't eject]. Under
365(h)(1) the lessee is given an option, similar to that given by
365(i) to the buyer under a land sale contract, to treat the lease
as terminated for material breach or to remain in possession under
the lease. The lessee can recover damages resulting from the
failure to perform collateral services, but recovery can be had
only by deducting those damages from rent due under the lease
[365(h)(2)].

REJECTION BY DEBTOR IN POSSESSION AS LESSEE

-A trustee in bankruptcy or debtor in possession may reject an
unwanted lease or assume a favorable lease. [365(a)]. Rejection
of a lease under which the debtor is lessee is a breach of the
lease giving the lessor a claim in bankruptcy for damages for
termination [365(g)(1) and 502(g)]. The lessor is entitled to
recover damages to the extent that it can prove that the damages
resulted from the termination. In the case of a lease of real
property, the amount that the lessor can recover for actual
damages for termination is limited, however, to the maximum
amounts stated in 502(b)(6). The limitation in 502(b) does not
apply to personal property leases.

-Lessor might be able to mitigate damages by reletting the
property to someone else.

LIABILITY FOR USE OF LEASED PROPERTY BEFORE REJECTION AND TIME
LIMITS FOR ASSUMPTION OR REJECTION

-A lease can be assigned or assumed even if the lease has a
bankruptcy clause. Moreover, §365(f) allows a lease to be
assigned notwithstanding a clause in tthe lease prohibiting or
restricting assignment.

-365(d)(3) requires the debtor in possession to “timely perform
all the obligations of the debtor arising from and after the order
for relief under any unexpired lease of nonresidential real
property, until such lease is assumed or rejected. The lessor
need not comply with 503(b)(1) for the allowance of administrative
expenses in order to be entitled to the rent. The court may give
the debtor in possession, for cause, a 60 day grace period after
the petition during which payments may be postponed so long as all
payments falling due within that period are made by the end of the
period. If debtor is looking to assign the property, may get more
time. Until rejection, the bankruptcy estate must pay the rent
required by the lease even though it may be above market rates.

-In Chapter 11, 365(b)(2) is the traditional rule. You can decide
prior to confirmation of the plan.

-This section does not apply to personal property leases or the
leases of residential real property. For those other types, the
old law still applies where debtor needs to pay only for actual
use and benefit to the estate.

-In re Southwest Aircraft Services, Inc. (apge 359)
If a cause for an extension arises within the 60 day period and a
motion for an extension is made within that period, a bankruptcy
court may, even after the 60 day period has expired, consider the
debtor’s motion, and, if it finds there was sufficient cause at
the time the motion was filed, grant the requested extension.
Also, the failure to make payments under 365(d)(3) constitutes
simply one element to be considered, along with all the other
relevant factors, in determining whether cause exists under
subsection (d)(4) to extend the 60 day period for assumption or
rejection.

-If estate not have enough assets to pay rent and other
administrative expenses, the normal rule is that expenses of
similar priority share pro rata. Under 365(d)(3), effectively,
the claim is given priority over other administrative expense
claims.

DISPOSSESSING THE DEBTOR IN POSSESSION

-A lease can terminate “by expiration of the stated term of such
lease” and 362(b)(10) and 541(b)(2) apply to leases tthat
terminate in that way. A lease can also be “terminated under
applicable nonbankruptcy law” and 365(c)(3) applies to termination
in that way. Thus, the Code makes a distinction between
expiration of a lease and termination for cause before the
expiration date. With respect to expiration, 362(b)(10) and
541(b)(2) apply to cases in which expiration occurred either
before or after commencement of the case. With respect to
terminattion before the expiration date, 365(c)(3) applies to
cases in which termination occurred before commencement of the
case.

Termination by Expiration of Term of Lease

-Under 362(a)(3) there is an automatic stay against “any act to
obttain possession…of property from the estate.” 362(b)(10)
provides that the automatic stay doesn’t apply. The effect of
362(b)(10) is to allow the lessor to bring an eviction action in
state courtt without intervention of the bankruptcy court.

-Under 541(a)(1) the lease becomes property of the estate when the
lessee filed in bankruptcy and, under 541(b)(2), itt ceases to be
property of the estate when the lease expires.

Termination Before Expiration of Term of Lease

-The debtor in possession cannot assume the lease if, before the
lessee filed in bankruptcy, the lease had been terminated under
state law. If the lease had been terminated, it would not be
property of the estate because the debtor had no “legal or
equitable interest” at the time of filing. [541(a)(1)]. Section
541(b)(2) does not apply because termination of the lease occurred
before the expiration of its term. 365(c)(3) applies, but does
not change the previous law.

-If the lessor brings an action in a state court to evict the
debtor in possession, the lessor has violated 362(a)(3), and
362(b)(10) does not apply because termination did not occcur
because of “expiration of the state term of the lease.”

-If there is doubt about whether termination actually occurred, it
is proper to have that determination made by the bankruptcy court
rather than a state court. 362(b)(10) carries out that policy.

ASSUMPTION AND ASSIGNMENT

EFFECT OF VIOLATION OF USE CLAUSE

-If termination is for violation of a use clause, it is necessary
to determine whether the new use onflicts with use permitted under
the lease. If a use clause is arbitrary or unreasonable a court
may find that the lease may not be terminated for violation of the
clause.

-Matter of U.L. Radio Corp (page 374)
The primary focus of adequate assurance of future performance is
the assignee’s ability to satisfy financial obligations under the
lease. The use clause is important in that the assignment must be
fair. Here, there was adequate assurance of future performance.
the landlord has shown no actual or substantial detriment to him
from the proposed assignment. So, assignment was authorized to
change TV store to a bistro, despite lease term that space will
only be used for T.V. store.

-365(f)(2) imposes two restrictions on assignment by the trustee:
(1) he must first assume the contract or lease, subject to all the
restrictions found in the section; and (2) adequate assurance of
future performance must be provided to the other contracting
party.

-(f)(3) “invalidates contractual provisions that permit
termination or modification in the event of an assignment, as
contrary to the policy of this subsection.”

SHOPPING CENTER LEASES

-365(b)(3) sets forth special standards for adquate assurance of
future performance in the assumption and assignment of shopping
center leases.

-Use clauses are strictly restricted against potential assignees.
In other words, they limit severely the Chapter 11 lessee’s
ability to assume or assign its shopping center lease and,
thereby, to realize on what might be a valuable asset.

PREFERENCES

-Secured claims are satisfied first. Then unsecured claims are
paid according to a system of priorities stated in 507. With some
exceptions stated in 726, unsecured claims without priority are
paid pro rata. This scheme of distribution cannot be altered by
the creditors or debtor after bankruptcy commences. The debtor’s
property becomes property of the estate under the control of the
bankruptcy court and creditors are prohibited from taking any
action under nonbankruptcy law to obtain payment of their claims
[362[.

-§547 is designed to undo certain prebankruptcy transactions the
effect of which is to frustrate the distrbitution scheme set forth
in 726. It allows the trustee in bankruptcy to avoid certain
transfers of the debtor's property. This is known as voidable
preferences.

-The five elements of a voidable preference are set forth in
547(b). 547(c) applies to certain transfers which are within the
definition of voidable preferences under (b), but which are
insulated from avoidance because they are not deemed to violate
the policy which 547 is designed to carry out. 547(b)(3) requires
that the debtor be insolvent at the time of the transfer. 547(f)
creates a presumption that the debtor was insolvent during the 90
days immediately preceding the date of filing of the petition in
bankruptcy. Since the burden of proving all elements of a
preference rests with the party seeking avoidance--normally the
trustee in bankruptcy--if the presumption is rebutted the trustee
must prove insolvency by a preponderance of the evidence. With
respect to 547(c) the burden of proof is on the recipient of the
preference who is seeking the exception from 547(b) that that
subsection provides [547(g)].

-The five characteristics of a voidable preference are that it:
1) benefit a creditor;
2) be on account of antecedent debt;
3) be made while the debtor was insolvent;
-there is a presumption of insolvency under 547(f). This is
rebuttable.
4) be within 90 days before bankruptcy;
-if creditor is insider at time of transfer, period is one year
before bankruptcy.
-even if insider, presumption of insolvency limited to 90 days.
5) enable the creditor to receive a larger share of the estate
than if the transfer had not been made.

-The subject matter of the transfer must be a property interest of
the debtor.

-If the trustee in bankruptcy avoids a preferential transfer under
547(b) the result is that the property transferred to the creditor
can be recovered for the benefit of the estate [550(a)]. If the
preference occurred when the debtor paid a debt in cash the
trustee is entitled to recover an equivalent amount which then
becomes part of the bankruptcy estate [541(a)(3)].

-551 says that the transfer avoided is preserved for the benefit
of the estate

-Exceptions to Preference Rule: [547(c)]
-Substantially contemporaneous exchange for new value. Two
elements here: (1) that the debtor and the creditor intended the
transfer to constitute a contemporaneous exchange for new value
fornished to the debtor, and (2) that the transfer actually was a
substantially contemporaneous exchange.

-Transfer in ordinary course of business.

-Purchase money security interest. This exception protects from
avoidance a purchase money security interest securing new value
extended to the debtor for the purpose of acquiring certain
property described in the security agreement and actually
purchased by the debtor with the funds furnished by the creditor.

-Subsequent advance of new value. Where subsequent to the
transfer, the creditor extended new unsecured value which has not
been repaid.

-Security interest in inventory and receivables. A transfer that
creates a perfected security interest in the debtor’s inventory,
receivables, or proceeds of inventory or receivables is voidable
only to the extent that the creditor’s position has improved, to
the prejudice of the estate, during the period beginning on the
later of the 90th day (or one year if secured party was insider at
time of transfer) before bankruptcy or the first date on which the
creditor gave new value pursuant to the security agreement, and
ending on the date that the petition was filed.

-Statutory lien. Makes the fixing of a statutory lien, such as a
tax lien, a mechanic’s lien, or an artisan’t lien, nonaviodable as
a preference if the lien cannot be avoided under 545.

EXAMPLE: Estate worth $150,000. A has lien in amount of $100,000.
B has secondary priorty lien in amount of $100,000. So, A is said
to have a lien of $100,000 and B’s is worth only $50,000.
If A can be nullified, estate is now worth $100,000 (as compared
to zero), and B is entitled to receive only $50,000. Thus, the
extra $50,000 goes to the estate.

-A transfer is considered to have been made on the date it became
effective between the parties if perfection occurs within the next
ten days [547(e)(2)(A)].

-A transfer is deemed to have been made on the date that it is
perfected if perfection occurs more than ten days after the
transfer originally became effective between the parties.
[547(e)(2)(B)].

THE PREFERENCE PERIOD

-Under 547(b)(4) a transfer cannot be a voidable preference unless
it occurs within what can be called the “preference period.”

-If the transfereee is an insider, defined in 101, the preference
period is one year before the date of the filing of the petition
in bankruptcy. Also, requirements of 547(b)(1), (2), (3) and (5)
have to be met.

-If the transferee is not an insider the preference period is 90
days before the filing of the petition.

-The statutory period is controlled by Rule 9006(a), which
provides that “the day of the act, event, or default from which
the designated period of time begins to run shall not be included”
but the last day of the period shall be included unless it is a
Saturday, Sunday or a legal holiday. In that case the period is
extended until the next day that is not a Saturday, Sunday or
legal holiday.

-Majority rule is that the 90 day period is calculated backward
from the date of the filing of the petition in bankruptcy.
-Minority rule is that the 90 day period is from the date of the
transfer.

CONTEMPORANEOUS EXCHANGES

-547(b)(2) states as one element of a voidable preference that the
transfer be “for or on account of an antecedent debt.” Thus, if
an insolvent buyer buys goods and pays for them at the time of
sale by transferring money or other property to the seller, there
is no preference because the buyer’s obligation to pay for the
goods and the transfer of the buyer’s property to satisfy the
obligation arise contemporaneously.

-547(c)(1) says that if parties intend a contemporaneous exchange
of a loan for a mortgage and the transfer of the debtor’s property
represented by the mortgage is delayed only a short time, the
exchange is substantially contemporaneous and the mortgage cannot
be avoided.

ORDINARY COURSE PAYMENTS

-547(c)(2) insulattes from avoidance, preferential transfers
resulting from certain ordinary course transactions.

-Union Bank v. Wolas (page 405)
547(c)(2) does not distinguish between short-term and long-term
debt. Payments on long-term debt, as well as payments on short-
term debt, may qualify for the ordinary course of business
exception to the trustee’s power to avoid preferential transfers.
Here, debtor borrowed a loan from a bank and later declared
bankruptcy. Within the 90 day period, debtor made monthly
payments on the loan. Court said that those payments are
preferenced.
THE NET RESULT RULE AND §547(c)(4)

-In Re Fulghum Construction Corp. (page 415)
547(c)(4) provides the net result rule. The old net result rule
is dead

SECURITY INTERESTS IN INVENTORY AND ACCOUNTS RECEIVABLE

-Basic formula is:

Pt 1 (Debt – collateral) [Pt 1 will typically be Day 90, the start
of preference period or the
minus Pt 2 (Debt - collateral) first day when there was a
debt.]
————————————–
= preference [Pt 2 is the date the bankruptcy petition
is filed.]

EXAMPLE:
1. Debt 100 Collateral: 60
2. Debt 100 Collateral: 80

-You ignore fluctuations:
Day 90: Debt 100, Collateral 60
Day 10: Debt 100, Collateral 10
Filing: Debt 100, Collateral 60

-You ignore the interim points. Here, the preference is zero!

-If the collateral does not turn over but merely appreciates,
there is no preference value for that appreciation.

[I SKIPPED THE SECTION ABOUT THE BANKRUPTCY ACT---FIND OUT IF THIS
WILL BE ON EXAM!]

-Accounts receivable and inventory normally turn over within a
short period of time. It is likely that some receivables or
inventory on hand at the datte of bankruptcy had been acquired by
the debtor within the preference period. Since a security
interest in this new collateral was, by virtue of 547(e)(3), a
transfer to the secured party when it was acquired by the debtor
there might have been a voidable preference under 547(b) if the
debtor was insolvent at the time. 547(c)(5) is a limited
exemption from this rule.

GARNISHMENT OF AFTER-ACQUIRED DEBT

-In Re Riddervold (page 432)
When a writ of excecution under a valid lien has been fully
executed by payment to the execution creditor, a subsequent
bankruptcy does not affect the creditor’s rights.

§547(e)(3)

[NEED TO CONSULT AID]

FALSE PREFERENCES: DELAYED PERFECTION OF SECURITY INTERESTS

-547(e)(2) is designed to eliminate the evils of the secret lien.
The meaning of 547(e)(2) is clarified in 547(e)(1) which defines
tthe term “perfected” and in 547(e)(3) which states that a
transfer cannot occur before the debtor has rights in the property
transfered.

Day 80: D gets loan from Cr and gives security interest to C
Day 10: Cr perfects the security interest.

-You look to 547(e)(1). Transfer occurs on Day 10. So, the
transfer here is for an antecedent debt.

-If creditor perfected on Day 71, there is a 10 day grace period
under 547(e)(2), so the transfer is considered to have taken place
on day 80.

[NEED TO FILL IN FURTHER FROM AID]

INSIDER PREFERENCES UNDER STATE LAW AND THE BANKRUPTCY CODE

-Under the common law, a debtor who cannot pay all creditors may
discriminate in favor of some to the detriment of others and
favored creditors are entitled to the benefit of the
discrimination.

-For insolvent corporation, if the preference is made to a
creditor who is not an officer, director or affiliate of the
corporation the normal common law rule applies. If the preference
is made to a director or a comparable insider of the corporation
the general rule is that the preference can be recovered for the
benefit of the creditors of the corporation.

-Levit v. Ingersoll Rand Financial Corp (paged 539)
ISSUE: Whether the Trustee may recover from an outside creditor
under 550(a)(1) a transfer more than 90 days before the filing
that is avoided under 547(b) because of a benefit for an inside
creditor.
HELD: Yes

-A lender can get the guarantor to waive all rights of
reimbursement, indemnification, and subrogation against the debtor
and this would avoid the preference recovery [In Re Fastrans, Inc,
page 547]

FRAUDULENT TRANSFERS

-UFTA is the Uniform Fraudulent Transfer Act.

-This is a two step process:
1) you have to establish that it is a fraudulent transfer
2) if so, then have to determine what ramifications are.

-State Law. States have a variety of different fraudulent
transfer laws:
-Statute of Elizabeth
-UFCA
-UFTA

-Federal Law. 544(b) simply incorporates state law. Allows the
trustee to step into the shoes of an actual unsecured creditor.

CASE#1
-A transfer is fraudulent under UFTA 5 because the debtor is
insolvent at the time of the transfer and does not receive
“reasonably equivalent value” in exchange for the transfer. This
transfer is fraudulent as to any creditor of the debtor whose
claim arose before the transfer was made.

CASE#2
-A transfer is fraudulent under UFTA 4(a)(1) because it is made
with “actual intent” to defraud a creditor. This transfer is
fraudulent as to any creditor without regard to when the
creditor’s claim arose.

-A transfer of the debtor’s property is fraudulent if it was made
with actual intent to hinder, delay, or defraud a creditor.
[548(a)(1)]. Factors to consider:
-when inadequate or no consideration is received for the transfer
-when the transferee is a relative or a close friend of the debtor
-when the debtor continues to enjoye the use of the property for
his personal benefit
-when the conveyance occurs during or following the debtor’s
incurring of financial problems
-when the debtor transfers his assets to a corporation that he
completely controls

-A transfer is also considered to be fraudulent if the debtor
received less than reasonably equivalent value for the transfer
and was insolvent on the date the conveyance occurred or became
insolvent as a consequence of it. [548(a)(2)(A), (B)(i)].

-Under UFTA 7 a creditor with respect to whom a transfer is
fraudulent may have the transfer set aside or, if the creditor has
obtained a judgmentt with respect to the creditor’s claim, may
levy execution on the transferred property or its proceeds. But
when the debtor goes into bankruptcy the rights of creditors to
set aside the transfer or to levy on the transferred property
passes to the trustee in bankruptcy.

-Most of the trustee’s avoiding powers are subject to a statute of
limitations requiring that the trustee file an action to avoid a
transfer before the earlier of (i) two years following appointment
of the trustee, or (ii) the time of the closing or dismissal of
the case. [546(a)].

-544(b) allows the trustee to avoid any transfer “by the debtor
that is voidable under applicable law by a creditor holding an
unsecured claim that is allowable” in the bankruptcy. Thus, in
case#1 above, the transfer could be avoided under 544(b) if there
is an unsecured creditor with an allowable claim in the bankruptcy
that could have sett aside the transfer under the UFTA, i.e. a
creditor whose claim arose before the transfer was made.

-With respect to case#2, any creditor could have set aside the
transfer unde the UFTA. Thus, 544(b) applies to that case because
there will always be a creditor with an allowable claim in the
bankruptcy, and 544(a) applies as well. Under 544(a) the trustee
in bankruptcy may avoid any transfer by the debtor that is
voidable by a hypothetical creditor that extends credit to the
debtor at the time of commencement of the bankruptcy. Section
544(a) does not apply with respect to the transfer in case#1.
Since the trustee, in avoiding a fraudulent transfer, is asserting
a right of creditors that existed at the time of bankruptcy, it is
a corollary that any creditor that could have asserted the right
before bankruptcy loses the right when bankruptcy occurs.

-548 is substantially similar to the UFTA. The trustee in
bankruptcy has the choice of attacking a fraudulent transfer
either under 548 or under the state fraudulent transfer law by
using 544(b). In most cases in which the state law is the UFTA
itt does not make any difference which route is taken, but there
are some cases in which the trustee’s rights will differ under the
two bodies of law. One limitation of 548 is that the transfer
must have occurred within one year before bankruptcy. If the
trustee is relying on the rights of a creditor under the state law
the transfer can be avoided so long as the right of the creditor
is not barred by the state statute of limitations, which under
UFTA 9 may be as long as four years.

-548(a)(2)(A) and (B)(i) set forth four elements that must be
established before a debtor may set aside a transfer of property.
These are:
1) the debtor had an interest in the property transfered;
2) the debtor was insolvent at the time of the transfer or became
insolvent as a result of the transfer;
3) the transfer occurred within one year of the filing of the
bankruptcy petition;
4) the transfer was for less than a “reasonably equivalent value.”

-Alan Drey Company Inc. v. Generation, Inc. (supplement handout)
Here, Generation intended to hinder, delay or defraud plaintiff.
They sold its sole substantial asset, the subscription lists, for
cash; the effect of such sale would be to place Generation out of
the magazine publishing business. Further, they lied to a
creditorr that no sale was contemplated. But, merely showing a
fraudulent intent on the part of the transferor is insufficient,
however, to impose liability on the transferee. The transferee
must be a participant in the fraud rather than a bona fide
purchaser. To constitute a bona fide purchaser from a fraudulent
transferor, he must have purchased the property for valuable
consideration, without notice of the fraud, and he must be
innocent of any purpose to further the fraud, even to protect
himself. To be regarded as a participant in the fraud, it is not
necessary that the purchaser have actual knowledge of the debtor’s
fraudulent intent, but merely a knowledge of facts and
circumstances sufficient to excite the suspicions of a prudent man
and be put on inquiry, or to lead a person of ordinary perception
to infer fraud.

TRANSFERS FOR LESS THAN REASONABLY EQUIVALENT VALUE

-Matter of Bundles (page 474)
The sale price at a regularly conducted, noncollusive foreclosure
sale cannot automatically be deemed to provide a reasonably
equivalent value within the meaning of 548(a)(2)(A). In defining
reasonably equivalent value, the court should neither grant a
conclusive presumption in favor of a purchaser oat a regularly
conducted, non-collusive foreclosure sale, nor limit its inquiry
to a simple comparison of the sale price to the fair market value.
Reasonable equivalence should depend on all the facts of each
case. In determining whether property was sold for reasonably
equivalent value, the bankruptcy court must, of course, be mindful
constantly of the purpose of 548?s avoiding powers–to preserve
the assets of the estate. This consideration requires that, in
determining reasonably equivalent value, the court must focus on
what the debtor received in return for what he surrendered.
Consequently, it is appropriate to consider, as a starting point,
the fair market value. However, the fact that the sale was tthe
result of a foreclosure rather than an arm’s length transaction
between a willing buyer and a willing seller is also of
considerable importance. Therefore, the bankruptcy court must
focus ultimately on the fair market value as affected by the fact
of foreclosure. As a practical matter, the foreclosure sale price
is the only means of measuring the effect of foreclosure on the
value of the property. Indeed, in usual circumstances, it would
be appropriate to permit a rebuttable presumption that the price
obtained at the foreclosure sale represents reqsonably equivalent
value. However, the bankruptcy court also must examine the
foreclosure transaction in its totality to determine whether the
procedures employed were calculated not only to secure for the
mortgagee the value of its interest but also to return to the
debtor-mortgagor his equity in the property. The bankruptcy court
therefore must consider such factors as whether there was a fair
appraisal of the property, whether the property was advertised
widely, and whether competitive bidding was encouraged.

LEVERAGED BYOUTS

INVALIDATING FRAUDULENT TRANSFERS TO LENDER

-In LBO cases in which the secured transaction by the debtor is
attacked by the trustee in bankruptcy as a fraudulent transfer
because the debtor failed to receive reasonably equivalent value,
the key element is often the issue of whether the debtor was
insolvent at the time of the transaction or was left with
unreasonably small capital [548(a)(2)(A) and (B)(i) and (ii).

-Moody v. Security Pacific Business Credit, Inc. (page 520)
Under UFCA 5, any conveyance made or obligation incurred by a
person engaged in "a business or transaction" is fraudulent if it
is made or incurred without fair consideration and leaves that
person with an "unreasonably small capital." A person is
insolvent when the present, fair, salabel value of his assets is
less than the amount that will be required to pay his probable
liability on his existing debts as they become absolute and
matured [UFCA 2]. Insolvency is determined as of the time of
conveyance. To be “salable” an asset must have an existing and
not a theoretical market. Where bankruptcy is not “clearly
imminent” on the date of the challenged conveyance, the weight of
authority holds that assets should be valued on a going concern
basis (as oppossed to liquidattion.) Unreasonably small capital
denotes a financial condition short of equitable insolvency. The
test for unreasonably small capital is reasonable foreseeability.
The critical question is whether the parties’ projections were
reasonable.

INVALIDATING FRAUDULENT TRANSFER TO SELLING STOCKHOLDERS

-In Kupetz v. Wolf (page 531), the 9th Circuit held that where
selling stockholders did not act in bad faith throughout the
transaction, fraudulent conveyance law should not apply.

-In Wieboldt Stores Inc, v. Schottenstein (page 533), the N.D.
Illinois collapse into one transaction the liability of the
controlling shareholders, the LBO lenders, and the insider
shareholders, finding thatt the persons and entities receiving the
conveyance were direct transferees who received “an interest of
the debttor in property” during the tender offer/buyout, and that
the WSI (company formed to merge with Wieboldt) and any other
parties to the transactions were “mere conduits: of Wiebodt’s
property.

-In Kaiser Steel Corporation, the 10th Circuit offered a rule that
shareholders in publicly owned companies whose shares are acquired
pursuant to an LBO appear to be largely immune from liability to
disgorge under fraudulent transfer law unless the case falls
within 548(a)(1) as an instance of “actual fraud,” a case
expressly excepted from 546(e) [safe harbor rule]. This would
mean that in the absence of proof of actual fraud, there could be
no recovery from insiders in a case like Wieboldt on the basis of
fraudulent transfer law. 546(e) might not, however, preclude the
trustee of a failed corporation from pursuing claims against
former stockholdedrs on the ground that they received a corporate
distribution in violation of the state’s corporation law and had
knowledge of the impropriety, as insiders normally would.

STRONG-ARM CLAUSE, STATUTORY AND COMMON LAW LIENS

-The power of the trustee under 544(a) [known as the strong arm
clause] is based on the power, under nonbankruptcy law, of a
hypothetical creditor or purchaser to avoid the transfer. The
avoiding power under 544(a) is directed at secret liens and other
secret transfers.

-The primary effect of 544(a) is to invalidate in bankruptcy
unperfected Article 9 security interests and unrecorded martgages
of real property.Under UCC 9-301(1)(b) an unperfected security
interest, although enforceable against the debtor under UCC 9-203,
is subordinated to the rights of a person who acquires a judicial
lien in the collateral. Under 544(a)(1) the trustee in bankruptcy
is given, when bankruptcy commences, the rights of a hypothetical
creditor who obtained a judicial lien at the time on all property
of the creditor. That section states that the trustee may avoid
any transfer that is “voidable” by the hypothetical judicial lien
creditor. Although UCC 9-301(1)(b) speaks in terms of
subordination of the unperfected security interest rather than
avoidance of the security interest, it is clear that the effect of
544(a)(1) is to invalidate the security interest if it was
unperfected at the time of bankruptcy. 546(b) and 362(b)(3) allow
perfection after bankruptcy to defeat the rights of the trustee
under 544(a) in cases in which the applicable nonbankruptcy law
gives retroactive effect to the perfection.

-You ignore any ACTUAL knowledge that the trustee has or that ny
creditors actually have.

- An example is UCC 9-301(2). If purchase money security interest
is perfected by filing within 10 days of the debtor’s taking of
possession of the collateral the security interest is good in
bankruptcy even if the debtor goes into bankruptcy before the
filing is made.

-Mortgages on real property that are unrecorded at the time of
bankruptcy can also be avoided under 544(a). In most states as
unrecorded mortgage on real property has priority over a
subsequent judicial lien. But an unrecorded mortgage is normally
not enforceable against a subsequent bona fide purchaser of the
real property. By virtue of 544(a)(3) unrecorded mortgages are
invalidated in bankruptcy if under the nonbankruptcy law they are
subject to the rights of a bona fide purchaser of the real
property. “Purchaser” means any voluntary transferee including an
encumbrancer.

KNOWLEDGE OF THE TRUSTEE IN BANKRUPTCY

-McCannon v. Marston (page 549)
In Pennsylvania, clear and open possession of real property
generally constitutes constructive notice to subsequent purchasers
of the rights of the party in possession. Such possession, even
in the absence of recording, obliges any prospective subsequent
purchaser to inquire into the possessor’s claimed interests,
equitable or legal, in that property. Thus, in Pennsylvania, the
rights of a subsequent purchaser do not take priority over those
of one in clear and open possession of real property. The trustee
is also given constructive notice, much in the way a future
purchaser would be.
-Under the laws of some states a bona fide purchaser of real
property defeats the rights of a previous transferee of an
interest in the property who has not recorded the interest only if
the bona fide purchaser records before the prior transferee
records.

PROPERTY HELD BY THE DEBTOR AS NOMINEE OR TRUSTEE

-If debtor is the nominal or legal owner, but has not beneficial
interest in property, under 541(a)(1), the trustee gets the “title
of the bankrupt.”

-In the absence of a statute specifically giving priority, a
judicial lien is not effective against property not beneficially
owned by the debtor. Thus, the normal result would be that the
bankruptcy estate cannot keep the stock and the promissory note
free of the claims of beneficial owners. But a bona fide
purchaser of Blackacre from debtor would normally defeat the
unrecorded equitable title of the investors for whom the debtor
holds nominal or legal title. Thus, the trustee could avoid those
interests under 544(a)(3).

-Belisle v. Plunkett (page 556)
ISSUE: May the trustee in bankruptcy case bring into the estate
property that the debtor holds in constructive trust for victims
of fraud?
HELD: 541(d) does not conflict with 544(a)(3) because 544(a)(3)
pulls into the debtor’s estate property that ostensibly was there
all along. This is not the use of 544(a) to fetch into the estate
something that 541(d) excludes.

-541(d) is limited in scope to 541(a)(1) or (2), which allows
544(a) to operate without any limitations by 541(d). The result
would seem tto be that if under 544(a)(3) the equitable title of
another person in real property in which the debtor holds legal
title is avoided, the estate gest the beneficial interest in the
property as well as the legal title. The legal title passes to
the estate under 541(a)(1) and ttthe beneficial interest passes to
the esttate under 541(a)(3). If this conclusion is correct,
541(d) does not protect a person whose equitable title is
avoidable under 544(a) or other avoiding power.

MARSHALLING TO PROTECT JUNIOR LIENS

-X perfected security interest in asset A and asset B owned by
debtor. Y has a perfected security interst in asset A, but none
in asset B. X has seized asset A upon default. Under article 9,
X’s security interest in A has priority over Y. Each asset has
value of $100,000. X proposes to first sell asset A and to apply
the $100,000 proceeds of sale to X’s claim of $120,000, and then
to sell asset B and apply $20,000 of the $100,000 proceeds of sale
to the remainder of the claim. If X is allowed to proceed, Y
loses all benefit of Y’s security interest in asset A. Since Y
has no security interest in asset B, the $80,000 remaining after
the sale of asset B will be given to Debtor. Y becomes an
unsecured creditor of Debtor. When the $80,000 is paid to Debtor
it is subject to levy by Debtor’s unsecured creditors (who are
owed $100,000.) But if X were to sell asset B first, the rights
of Y are changed. The $100,000 proceeds of sale of asset B would
be applied to the $120,000 debt owed X, leaving $20,000
unsatisfied. That debt would be satisfied by applying $20,000 of
the proceeds of sale of asset A, leaving $80,000 which would be
paid to Y, as junior lienor.
-Under an equitable doctrine known as marshalling, Y in the
hypothetical case is entitled to a court order requiring X to
first apply the proceeds of sale of asset B to X’s claim and then
to apply the proceeds of the sale of asset A to the remainder of
X’s claim. There are four requirements for marshalling in such a
case:

1) two funds can be used to pay the debts of secured creditors;
2) only one secured creditor can resort to both funds;
3) the senior secured creditor is not hurt by marshalling;
4) the marshalling does not result in an injustice to third
parties.

-Here, unsecured parties had no property interest in either asset
A or B when the order was made. Thus, while they get less
“technically”, this is not considered.

STATUTORY AND COMMON LAW LIENS

-545 governs the validity of statutory liens. Lien is defined in
101 as a “charge against or interest in property to secure payment
of a debt or performance of an obligation.” Statutory lien is
defined in 101 as “a lien arising solely by force of a statute on
specified circumstances or conditions…but does not include
security interest or judicial lien.” Any lien arising by
agreement of the debtor is defined by 101 as a security interest
and thus not a statutory lien. Any lien obtained by a legal or
equitable proceeding or process is defined by 101 as a judicial
lien and thus is not a statutory lien. Some types of statutory
liens are invalidated by 545. They are described in 545(1), (3),
and (4). Statutory liens not falling within those subsections are
governed by the bona fide purchaser test of 545(2). Any lien that
passess this test will also survive 544. Statutory liens valid
under 545 cannot be avoided as preferences [547(c)(6)].

-Mechanic’s liens (page 569)
-507 gives to tax claims (i.e. Tax Lien) the second lowest
priority (seventh). By virtue of the Federal Tax Lien Act,
federal tax claims automatically become a lien on all of the
debtor’s property when the tax is assessed. Tax liens are not
made voidable by 545 if they pass the bona fide purchaser test of
545(2). But much of the value of the lien to the tax claimant may
be taken away by 724(a) and (b).

-Claims for tax penalties are not entitled tto any priority unless
they are “in compensation for actual pecuniary loss.”
[507(a)(7)(G)]. Moreover, a noncompensatory tax penalty claim is
subordinated to payment of all nonpriority claims with the single
exception of claims for postbankruptcy interest [726(a)(4)].
Consistent with this policy of giving a very low rank to a
noncompensatory tax penalty claim, 724(a) makes voidable a lien
which secures that claim. 724(b) specifies how property subject
to an indefeasible tax lien will be applied. Its effect is to
subordinate the tax claim secured by the lien to claims having
priorities that are higher than the tax priority.

CHAPTER 13

-A major reason for filing Chapter 13 is to save assets that would
be lost in a Chapter 7. With the exception of 523(a)(5), (8), and
(9), debts nondischargeable under 523 can be discharged in Chapter
13. Also, there is no limitation on the frequency of Chapter 13
discharges, while a Chapter 7 can be obtained only once every six
years.

-Chapter 13:
1) extends eligibility to all individuals with regular income,
without regard to its source, and to their spouses, so long as
their unsecured debts are less than $100,000 and their secured
debts are less than $350,000;
2) allows debtors to propose plans affecting secured as well as
unsecured debts;
3) empowers bankruptcy courts to confirm plans without the consent
of creditors;
4) afords debtors who complete the payoff under their plans a
broad discharge; and
5) removes the six year bar for filing subsequent petitions in
Chapter 13.

-Chapter 13 is wholly voluntary; an involuntary petition is not
permitted [303(a)]. Moreover, a debtor who has opted for Chapter
13 has an unrestricted right either to convert to Chapter 7 or to
have the petition dismissed. [1307(a) and (b)]. A debtor in
Chapter 7 may convert to Chapter 13 at any time if the case had
not previously been converted from Chapter 11 or Chapter 13
[706(a)].

-Under 707(b), the bankruptcy court “on its own motion or on the
motion of the United States Trustee”
may dismiss a Chapter 7 petition for “substantial abuse” if the
debtor is an individual whose debts are primarily consumer in
nature. As a practical matter, if a typical consumer debtor needs
protection from creditors and the debtor’s Chapter 7 petition is
dismissed, the only feasible alternative is Chapter 13. (thus,
maybe Chapter 13 is not entirely voluntary, but sometimes can be
coerced.)

-The filing of a Chapter 13 petition invokes not only the
automatic stay of 362, but also a stay against any civil action or
other act by a creditor to collect a consumer debt from an
individual who has guaranteed or secured a liability of the debtor
or who is otherwise liable on a debt with the debtor. [1301(a)].

-In Re Green (page 614)
To determine whether substantial abuse exists under 707(b), the
totality of the circumstances test should be used. It asks: (1)
whether the bankruptcy petition was filed because of sudden
illness, calamity, disability, or unemployment; (2) whether the
debtor incurred cash advances and made consumer purchases far in
excess of his ability to repay; (3) whether the debtor’s proposed
family budget is excessive or unreasonable; (4) whether the
debtor’s schedules and statement of current income and expenses
reasonably and accurately reflect the true financial condition;
and (5) whether the petition was filed in good faith. The per se
rule, which would establish a future income threshold, is inferior
to the totality of circumstances test.

-In determining whether to dismiss a debtor’s Chapter 7 petition
for substantial abuse, the weight to be given to the debtor’s
ineligibility for Chapter 13 relief has been a matter on which
courts have differed.

ELIGIBILITY

-Requirements for eligibility are set forst in 109(e). The debtor
must be a natural person. Even a one-stockholder corporation or
family partnership is barred and may seek rehabilitation only in
Chapter 11. The debtor must have “regular income”, defined in 101
as income “sufficiently stable and regular to enable such
individual to make payments under a plan under Chapter 13.” The
source of income is not material. Spouses of debtors with
regular income are eligible for Chapter 13 even though they have
no income. The debtor must have noncontingent and liquidated
debts of less than $100,000 of unsecured claims and $350,000 of
secured claims. The value of the debtor’s assets is not
relevant.

MECHANICS OF A CHAPTER 13 CASE

-In Chapter 13, debtors keep their property and pay their debts
out of future earnings pursuant to a plan confirmed by the court.
At the time of filing, the debtor must file schedules to the
petition in bankruptcy giving information about the debtor’s
employment, income, expenses, debts, and property as well as
estimates of future monthly income and expenses. The debtor must
file a plan with the petition or within 15 days thereafter unless
an extension is granted [Rule 3015]. A 1984 amendment added
1326(a) requiring the debtor to commence payments under the plan
within 30 days after the plan is filed even thouth the plan is not
yet confirmed. Any payment received by the trustee before
confirmation is to be held by the trustee until the plan is either
confirmed or not confirmed. If the plan is not confirmed, the
trustee gives the money back to the debtor. If the plan is
confirmed, the trustee distributes the money under the plan.
Another amendment in 1984 added 1302(b)(5) which requires that the
trustee “ensure that the debtor commences making timely payments
under 1326.” If the debtor fails to commence payments on time, the
case may be converted to Chapter 7 or dismissed. [1307(c)(4)].

-Within 20 or 40 days after the petition, the court must call a
meeting of creditors pursuant to 341(a). [Rule 2003(a)]. Proof of
claims are to be filed within 90 days after the first date set for
the meeting of creditors. [Rule 3002(c)]. The notice of
confirmation hearing must include either the plan or a summary of
it so that creditors will know whether they wish to object to it
at the confirmation hearing [1324 and Rule 3015]. Unsecured
creditors have no right to vote on the plan. Money may be paid to
the trustee directly by the debtor, or pursuant to court order, by
the debtor’s employer or other source of income. [1325(c)]. After
confirmation the trustee will distribute the money to creditors
under the plan. When all payments under the plan have been
completed, the debtor is discharged. [1328(a)].

-The payments under a Chapter 13 plan may not extend beyond three
years unless, for cause, the court approves a longer payback
period, up to a maximum of five years. [1322(c)].

-Trustee’s duties in Chapter 13 are stated in 1302(b).

-Compensation of the standing trustee is made by deducting a
percentage, not to exceed 10%, from all payments made by the
trustee under the plan.

THE AUTOMATIC STAY AND PROPERTY OF THE ESTATE

-Upon the filing of a Chapter 13 petition, 362(a) automatically
stays creditor proceedings, judicial or extrajudicial, to collect
prepetition claims. The stay continues until the plan is
completed and debtor is discharged [362(c)(2)]. During the period
of the plan the debtor may acquire new property and incur new
debts.

-If the debtor owns property in which a prepetition lienholder
retains a lien after confirmation, the lienholder may proceed to
forecloseure without lifting the stay for a failure of the debtor
to make the payments required by the plan.

-1322(b)(8) provides that the plan may provide for payments from
property of the estate or of the debtor other than future
earnings.

PAYMENT BY THE DEBTOR

PROJECTED DISPOSABLE INCOME

-1322(a)(1) states that “the plan shall provide for the submission
of future earnings or other future income of the debtor to the
supervision and control of the trustee as is necessary for the
execution of the plan.” 1325(a) states requirements that must be
met for confirmation of the debtor’s plan. 1325(a)(4), known as
the “best interests” rule, specifically deals with the issue of
the comparative benefit to holders of unsecured claims under
Chapter 7 and Chapter 13. Under that rule holders of unsecured
claims must receive in Chapter 13 at least as much as they would
have received in Chapter 7, taking into account the fact that
payment in Chapter 13 is on a deferred basis.

-Under 1325(b) it is necessary to make a projection of how much
the debtor will earn over the three year period. In the case of
wage earners, the projection will relate to estimated take home
pay. From this net income there must be deducted amounts
“reasonably necessary to be expended for the maintenance or
support of the debtor or a dependent of the debtor.”
[1325(b)(2)(A)].

-The court should probably not order debtors to alter their
livestyles where there is no obvious indulgence in luxuries, even
where one or more unsecured creditors demand such a change.

PAYMENTS OUTSIDE THE PLAN

-In the case of a residential mortgage, the debtor is commonly
allowed to make payments directly to the creditor (known as
payments outside the plan). Under 586(e)(2), the trustee is not
entitled to a commissioon on funds disbursed by the debtor
directly to the creditor.

REQUIREMENT THAT PLAN BE PROPOSED IN GOOD FAITH

PLANS PROPOSING MINIMAL PAYMENTS ON UNSECURED CLAIMS

-To determine whether plan proposed in good faith, consider the
following criteria:
1) the amount of the proposed payments and the amounts of the
debtor’s surplus;
2) the debtor’s employment history, ability to earn, and
likelihood of future increases in income;
3) the probable or expected duration of the plan;
4) the accuracy of the plan’s statements of the debts, expenses
and percentage of repayment of unsecured debt, and whether any
inaccuracies are an attempt to mislead the court;
5) the extent of preferential treatment between classes of
creditors;
6) the extent to which secured claims are modified;
7) the type of debt sought to be discharged, and whether any such
debt is nondischargeable in Chapter 7;
8) the existence of special circumstances such as inordinate
medical expenses;
9) the frequency with which the debtor has sought relief under the
Bankruptcy Reform Act;
10) the motivation and sincerity of the debtor in seeking Chapter
13 relief, and
11) the burden which the plan’s administration would place upon
the trustee.

-A chapter 13 plan binds the debtor to the payments of debts out
of future income usually for three years. What happens if the
debtor’s future earnings cease because of loss of employment or
illness before the plan is completed? 1328(b) allows the court to
award the debtor a so-called “hardship discharge” so long as:
1) “the debtor’s failure to complete such payments is due to
circumstances for which the debtor should not justly be held
accountable,”
2) the unsecured creditors have received as much as they would
have received in a Chapter 7 liquidation, and
3) modification of the plan to accomodate the debtor’s new
circumstances under 1329 is not practicable.

-However, a hardship discharge does not rid the debtor of those
debts that would have been nondischargeable in Chapter 7. [523(a)
and 1328(c)].

-One can file a Chapter 7 and then a Chapter 13 to discharge the
remaining debt. This is known as a Chapter 20.

SUCCESSIVE CHAPTER 13 CASES

-Although a discharge under 1328 does not bar a subsequent
discharge in Chapter 13 it does bar a subsequent Chapter 7
discharge within six years if the debtor paid creditors in the
Chapter 13 case less than 70% of the amount of allowed unsecured
claims in the case [727(a)(9)].

MODIFICATION OF SECURED CLAIMS

-Under Chapter 13, 1322(b)(2) expressly allows the Chapter 13 plan
to “modify the rights of holders of secured claims.” 1325(a)(5)
provides three alternative ways in which the holder of the claim
can be bound by the modification. (1) the holder of the claim may
accept the plan [1325(a)(5)(A)]. (2) the debtor may surrender the
collateral to the holder of the claim [1325(a)(5)(C)]. (3) the
plan may provide for retention of the security interest by the
holder of the claim and payment of the present value of the
secured claim in installments over the life of the plan
[1325(a)(5)(B)]. As an alternative procedure, 1322(b)(5) allows
the plan to provide for cure of any default with respect to the
claim and reinstatement of the security agreement. The amounts in
default can be paid off over the three to five year period of the
plan, while the debtor is maintaining the payment schedule called
for by the security agreement.

SECURED CLAIMS IN PERSONAL PROPERTY

-1325(a)(5)(B) allows the debtor to retain possession and use of
the encumbered property, without the consent of the creditor, by
providing in the plan for payment of the amount of the secured
claim plus interest over the life of the plan. Under 506(a) the
amount of the secured claim cannot be more than the value of the
collateral; therefore, if the collateral is worth less than the
amount of the debt, the debtor will be paying the creditor an
amount equal to the value of the collateral, rather than the
amount due under the security agreement. This is the “cramdown”
effect of 1325(a)(5). The result is to permit the debtor to do in
Chapater 13 what a Chapter 7 debtor cannot do by use of 722, that
is, to redeem the property by paying the creditor its present
value in installments.

-506(a) gives directions on how to value a secured creditor’s
claim. Most courts give wholesale value of the collateral.

-As to interest rates, some courts adopt the interest rate state
in the security agreement. The trend of authority, however,
particularly during periods of falling interest rates, has been
toward the current market rate for similar loans in the region.

SECURED CLAIMS IN REAL PROPERTY

-1322(b)(2) prohibits a plan from modifying a claim secured by the
debtor’s principal residence. This was thought to preclude
debtors from utilizing 1325(a)(5)(B) to rewrite home loans by
lowering the amounts of the installment payments, changing the
interest rates or shortening the term of the loan.

CURE OF DEFAULTS

-Debtors, delinquient on installments on mortgage debt, under
1322(b)(5) were able to save their homes from foreclosure by
proposing a plan that paid off the amount of the arrearage in
installments over the three to five year period of the plan while
paying the current installments as they came due under the
mortgage. If the debtor had the resources to carry out such a
plan, the mortgage was reinstated and the loss of the home was
avoided.
-Some cases have denied debtors the right to cure after a judgment
of foreclosure has been entered but before the property has been
sold on foreclosure. Others allow cure up to the point of the
foreclosure sale [majority view]. Still others allow cure even
after foreclosure sale so long as the debtor retains a right of
redemption under state law.

-506(b) provides for postpetition interest for over-secured
creditors. The Supreme Court held that 506(b) applies both in
cases in which the parties agreed to pay interest and in cases in
which there was no agreement to pay interest.

BIFURCATION OF CLAIMS

-506(a) applies to claims “secured by a lien on property.” If the
value of the property is less than the amount of the debt, the
claim is bifurcated into a secured claim to the extent of the
value of the property and an unsecured claim for the remaining
part of the debt. [NEED MORE FROM AID].

CHAPTER 11: PRECONFIRMATION

[Chapter 10 is for small businesses]
-Differences between 10 and 11:
-shorter time to file plan under Chapter 10
-Chapter 10 not include absolute priority rule
-creditors won’t get to vote on plan in Chapter 10

-Chapter 11 helps by: offering a stay, providing means to bind
dissenting creditors to a particular courtse of action.

-1112(b) states various grounds for the court’s dismissing a
Chapter 11 case or converting it to Chapter 7. Among the grounds
is “continuing loss to or diminution of the estate and absence of
a reasonable likelihood of rehabilitation. [1112(b)(1)].

-Chapter 11 can be voluntary AND involuntary. Normal course is
for the debtor to remain in possession and operate the business,
though a trustee may be appointed for cause. For a period after
the petition, the debtor has the exclusive right to propose a
plan. After due disclosure regarding the plan is given, creditors
and stockholders whose claims or interests are impaired by the
plan may vote by class on the plan. If all classess approve the
plan confirmation by the court usually follows. Dissenting
minorities within a class may be bound by a two-thirds vote of the
class so long as the best interests test is satisfied. If any
class dissents the court can nevertheless confirm the plan if
certain standards are met. The most important is the absolute
priority rule. Confirmation made in this manner is usually
referred to as “cramdown.” Confirmation of the plan awards the
debtor a broad discharge of debts.

CONTROL BY THE DEBTOR IN POSSESSION

APPOINTMENT OF A TRUSTEE IN BANKRUPTCY

-Occurs only in exceptional cases. The court may order the
appointment of a trustee “for cause, including fraud, dishonesty,
incompetence or gross mismanagement of the affairs of the debtor
by current management…or similar cause [1104(a)(1)]. It is also
possible, under 1104(a)(2), for the court to order appointment of
a trustee if the “appointment is in the interests of creditors,
any equity security holders, and other interests of the estate.”

-If a trustee is appointed, the debtor’s board of directors
continues to exist after the appointment, but its powers are
severely limited.

THE ROLE OF THE DEBTOR IN POSSESSION

-If a trustee in bankruptcy is not appointed, the debtor in
possession obtains most of the rights, powers, and duties of a
trustee in bankruptcy including the right to continue operation of
the debtor’s business without prior court approval. [1107(a) and
1108]. Because it has avoiding powers of the trustee, the debtor
in possession may avoid preferential or fraudulent transfers that
it made as debtor before bankrutpcy.

-The management of the debtor in possession, under 323(a) has
fiduciary duties to the estate in the same way that an independent
trustee in bankruptcy has such duties.

-Under 1121(b) the debtor is given the exclusive right to file a
plan of reorganization during the first 120 days of the Chapter 11
case and that period can and often is extended.

THE EXAMINER

-An examiner is appointed by the court in lieu of a trustee when
debtor remains debtor in possession “to conduct such an
investigation of the debtor as is appropriate, including an
investigation of any allegations of fraud, dishonesty,
incompetence, misconduct, mismanagement, or irregularity in the
management of the affairs of the debtor of or by current or former
management of the debtor.” [1104(b).] Under 1106(b) the examiner
is given the investigatory duties of the trustee. In an
appropriate case the right of the debtor in possession to operate
the business under 1107(a) and 1108 can be limited and subjected
to oversight by an examiner.

-1104(b) states that on request of a party in interest or the U.S.
Trustee, the court shall appoint an examiner if the appointment
“is in the interests of creditors, any equity security holders,
and other interests of the estate” [1104(b)(1)] or the unsecured
nontrade debts of the debtor exceed $5,000,000 [1104(b)(2)].
-Most courts do not enforece this provision of $5,000,000.

-An examiner cannot subsequently serve as trustee, or as lawyer or
accountant to the trustee in the same case. [321(b) or 327(f)].

CREDITORS’ COMMITTEES

-1102(a)(1) requires the U.S. Trustee to appoint a committee of
creditors holding unsecured claims as soon as practicable after
commencement of the case. This committee “shall ordinarily
consist of the persons, willing to serve, that hold the seven
largest claims against the debtor” [1102(b)(1).] In order to
inform the U.S. Trustee of the identity of these creditors, Rule
1007(d) requires the debtor to file with its Chapter 11 petition a
list of creditors holding the 20 largest unsecured claims,
excluding insiders. The debtor may have been negotiating a
workout with a committee of its creditors before filing. If this
committee is representative of the claims to be represented and
was “fairly chosen,” 1102(b)(1) allows the U.S. Trustee to appoint
its members as the creditors’ committee. Standards to determine
whether the committee was “fairly chosen” are in Rule 2007(b).

-In complex cases either the U.S. Trustee or, on the request of a
party in interest, the court may require the additional committees
of creditors or equity security holders by appointed. [1102(a)].

-Creditors’ Committees are given broad powers by 1103(c). The
most important role of creditors’ committees is to negotiate with
the debtor in possession or trustee about the terms of the
reorganization plan. In complex cases these negotiations may take
years. If no agreement can be reached, the creditors’ committee
may submit a rival plan. In either event the committee may
solicit acceptances or rejections of plans. In the usual case no
trustee or examiner is appointed, and the creditors’ committee is
the only participant in the case that can carry out an
investigattion of the debtor’s financial condition and of the
debtor’s chances for a successful reorganization. If the
committee’s investigation shows that appointment of either a
trustee or examiner is warranted under 1104, the committee may
request such appointment. Under 1109(b) the commitee “may raise
and may appear and be heard on any issue” in the case.

-Committees can employe professionals pursuant to 1103(a). Under
330(a) these persons may be awarded reasonable compensation for
their services as administrative expenses. [503(b)(2)].

OPERATING THE BUSINESS FROM PETITION TO CONFIRMATION

-363(c) says that so long as the debtor is acting in ordinary
course of business, a debtor may continue to use all property of
the estate, except for cash collateral, and may sell or lease
without prior notice and hearing.

-The interests of secured creditors are protected by 363(e) that
allows the court to prohibit or condition use, sale, or lease of
the property of the estate “as is necessary to provide adequate
protection of” the secured creditors’ interests in this property.

-The rights of unsecured creditors to share in unencumbered assets
find protection, such as in 1112(b) which allows the court to
convert the case to Chapter 7 if there is no reasonable likelihood
of a successful reorganization.

USE OF DEPOSIT ACCOUNTS AND OTHER CASH COLLATERAL

-363(c)(2) provides for a special rule for cash collateral, which
is defined in 363(a). The debtor may use cash collateral only if
the creditor having a security interest in the collateral consents
or if the court, after notice and hearing, authorizes the use.
The court may prohibit or condition the use of cash collateral on
the debtor’s providing adequate protection of the secured
creditor’s interest. An accelerated hearing is possible under
363(c)(3) and Rule 4001(b).

SALE OR LEASE OF PROPERTY IN ORDINARY COURSE

-Under 363(c)(1) a debtor in possession may sell or lease property
of the estate wihout court approval if done in the ordinary course
of the debtor’s business. Creditors or other parties in interest
may request the court to place limits on the debtor’s practices if
they are inappropriate [363(c)(1)].

OBTAINING CREDIT

-If credit is obtained in the ordinary course of the debtor’s
business, no court approval is required [364(a)]. If not, court
approval must be obtained. [324(b)].
-Under either 364(a) or (b) the authorized credit must qualify as
an administrative expense under 503(b)(1) giving the creditor a
first priority under 507(a). The administrative expense priority
acts as an incentive to induce creditors to deal with the debtor
in possession in a Chapter 11 case. If a simple administrative
expense priority will not induce a person to grant credit to the
debtor in possession, 364(c) allows the court to authorize (1) a
priority over any or all of the other administrative expenses, (2)
a lien on any unencumbered property of the estate, or (3) a junior
lien on property already encumbered. If that person is still
unwilling to grant credit, 364(d) allows the court to authorize a
lien senior or equal to an existing lien on property of the estate
so long as adequate protection is given to the holder of the
existing lien.

-If court authorizes credit, 364(e) says that reversal or
modification of order (on appeal) does not affect the validity of
the debt or the priority or lien granted to the creditor unless
the incurring of the debt or the granting of the priority or lien
was stayed pending an appeal . A creditor acting in good faith is
protected even if the creditor had knowledge of the appeal.

RIGHTS OF PREPETITION CREDITOS

-No interest is paid on claims. [502(b)(2)].

CROSS-COLLATERALIZATION OF PREPETITION DEBT

-Suppose a creditor with a prepetition claim is asked to grant
postpetition credit. The creditor is willing so long as the
creditor is given a lien on assets of the estate that secures not
only payment of the postpetition credit but the prepetition claim
as well (this is known as cross-collateralization.) Is such a
lien permissible? To the extent the lien secures payment of the
prepetition claim, the granting of the lien amounts to a
postpetition preference.

-Matter of Saybrook Manufacturing Co. (page 696)
Cross collateralization is not authorized by 364. It is an
impermissible means of obtaining post-petition financing.

SALE OF PROPERTY NOT IN ORDINARY COURSE: PARTIAL LIQUIDATION

-If a debtor in possession wants to sell or lease property of the
estate “other than in the ordinary course of business” it can do
so “after notice and a hearing.” [363(b)(1)].

-Under Rule 6007(f) a sale not in ordinary course of business may
be either by private sale or public auction. Not less than 20
days notice of the sale must be given to creditors or to their
committees unless the court for cause shortens the notice period.
[Rule 2002(a)(2) and 2002(i).] The notice must include the time
and place of any public sale or the terms and conditions of any
private sale and the time fixed for filing objections. [Rule
2002(c)(1)].

-Sales made under 363(b)(1) that are subject to notice and hearing
are made by the debtor in possession and not by the court. They
are not judicial sales. If not party in interest objects to the
sale after receiving notice, no hearing or court approval is
required, and the debtor in possession may convey the property
[102(1)].

-In Re Lionel Corp (page 702)
ISSUE: To what extent Chapter 11 permits a bankruptcy judge to
authorize the sale of an important asset of the bankrupt’s estate,
out of the ordinary course of business and prior to acceptance and
outside of any plan of reorganization?
HELD: There must be some articulated business justification,
other than appeasement of major creditors, for using, selling or
leasing property out of the ordinary course of business before the
bankruptcy judge may order such disposition under 363(b). Factors
to consider: the proportionate value of the asset to the estate as
a whole, the amount of elapsed time since the filing, the
likelihood that a plan of reorganization will be proposed and
confirmed in the near future, the effect of the proposed
disposition on future plans of reorganization, the proceeds to be
obtained from the disposition vis-a-vis any appraisals of the
property, which of the alternatives of use, sale or lease the
proposal envisions, and most importantly, whether the asset
is increasing or decreasing in value.

CHAPTER 11: CONFIRMATION AND BEYOND

-Under 1121, for 120 days after filing of the petition in
bankruptcy, only the debtor may file a plan. If the debtor files
a plan within 120 days, the debtor is given an additional period
ending 180 days after the filing of the petition in bankruptcy to
obtain acceptance of the plan by holders of claims and equity
interests. The court may reduce or increase these periods.
[1121(d)]. The debtor’s exclusive right to file a plan ends if a
trustee in bankruptcy is appointed. [1121(c)(1)].

-The plan is then presented to creditors and equity security
holders whose rights are impaired by the plan. In drafting its
plan the debtor may classify claims and interests and deal with
the different classes in different ways. [1122 and 1123]. The
composition of the classes is important for they are the voting
units for acceptance of the plan under 1126. If all the classes
impaired by the plan (1124) vote to accept the plan (1126), the
court may confirm the plan (1129(a)(8)), so long as the dissenting
members of the accepting classes will receive at least as much
under the plan as they would have in a liquidation
(1129(a)(7)(A)). A class of creditors has accepted a plan if two-
thirds in amount and more than one-half in number of those voting
have accepted. [1126(c)].

-If any class impaired by the plan rejects it, 1129(a)(8) is not
met and the court cannot confirm the plan under 1129(a). On
request of the proponent of the plan, the court may, nevertheless,
confirm the plan under 1129(b) if the plan is in compliance with
all other requirements of 1129(a) and meets the overall standard
stated in 1129(b)(1) that “the plan does not discriminate unfairly
and is fair and equitable” with respect to each nonconsenting
class that is impaired. Fair and equitable is defined in
1129(b)(2). In the case of unsecured claims, confirmation without
consent (cramdown) can be accomplished if the absolute priority
rule is satisfied (1129(b)(2)(B)). But cramdown cannot be
accomplished unless at least one class of impaired claims has
accepted the plan [1129(a)(10)]. In the case of priority claims
full payment must be made [1129(a)(9)]. In the case of secured
claims, the secured creditor must be given the economic equivalent
of its secured claim [1129(b)(2)(A)]. If ownership interests of
the debtor are eliminated, those interests are impaired and are
treated as a nonconsenting class [1126(g)]. Under 1129(b)(2)(C)
the plan can be confirmed only if those interested are found to
have no value under the absolute priority rule. If the debtor is
unable to effectuate a plan and no other proponents steps forth,
the case may be converted to a Chapter 7 or may be dismissed.
[1112(b)(2)].

SOLICITATION

-When the plan is submitted to the various classes, a disclosure
statement approved by the court pursuant to 1125(b) is first
given. The statement must contain “adequate information,” defined
in 1125(a)(1), that will allow the holder to make an informed
judgment about the plan.

-By virtue of 1125(d), the Bankruptcy Code governs the statement,
rather than securities laws.

-In In Re Apex Oil Co, the Bankruptcy Court for E.D. Mo. found
that after the court has approved the debtor’s disclosure
statement, further information can be distributed. Soliciting
parties need not obtain prior court approval of solicited
materials only if:
1) the information provided is truthful and absent of any false or
misleading statements or legal or factual
mischaracterizations;
2) the information is presented in good faith;
3) the soliciting party does not propose or suggest an alternative
plan which has yet to gain court approval or otherwise failed to
travel through the appropriate legal channels, as dictated by the
Bankruptcy Court.

-So, a soliciting party party may: offer a narrative, evidence,
conclusions, or opinions contrary to that enunciated in the plan
or disclosure statement; assert positions, evidence, conclusions,
or opinions of relevant matters which are not contained in the
plan or court-approved disclosure statement; and offer evidence or
opinions of an alternative liquidation analysis, since the debtors
have a liquidation analysis as part of their disclosure statement.

-In sum, a soliciting party may react to and present contrary
views regarding the court-approved disclosure statement, but may
not present or suggest an alternative plan which has not been
subject to court scrutiny regarding adequacy of disclosure.

IMPAIRMENT OF CLAIMS OF INTEREST

-For consensual confirmation under 1129(a)(8), it is necessary to
obtain the approval of a class of claims or interests only if the
class is impaired. Unimpaired classes are deemed to have accepted
the plan [1126(f)]. Impairment is defined in 1124, which states
that impairment is present unless the plan leaves “unaltered” the
rights of the holder of the claim or interest. Thus, if
stockholders are given nothing in a reorganization of an insolvent
corporation they may not have been materially and adversely
affected because they have lost nothing that had any present
value. Nevertheless, under

1124(1), they have been impaired because their rights as
stockholders are being taken away by the plan.

-Virtually all interests and claims are impaired in Chapter 11
reorganization unless there is a cure under 1124(2) or payment
under 1124(3).

CLASSIFICATION OF CLAIMS

-1122(a) states that a claim or interest may be placed in a class
“only if such claim or interest is substantially similar to other
claims and interests of such class.” 1123(a)(4) requires that the
plan provide the same treatment for each claim or interest within
the class.

-1322(b)(1) provides that a Chapter 13 plan that designates
classes of unsecured claims “may not discriminate unfairly against
any class so designated.” The only reference in Chapter 11 to
discrimination is found in 1129(b)(1) which allows cramdown only
if the plan does not discriminate unfairly with respect to each
class of claims or interests.

-Debtors may owe many small unsecured claims. The expense of
dealing with these claims might be excessive when compared to the
amount of debt involved. 1122(b) allows the proponent to
designate these claims as a separate class “as reasonable and
necessary for administrative convenience.” Hence, the plan might
create a class for all claims of no more than $1,000 or that the
claimant will agree to reduce to $1,000, and provide for full
payment of this class.

-Rule 3013 provides that on motion the court may determine classes
of creditors and stockholders after notice and hearing. Hence,
the proponent may obtain the court’s approval of the makeup of the
classes before acceptances of the plan are solicited.

-Some classes examples:
-preferred stock and common stock require separate classification.
-secured claims secured by different collateral require separate
classification if they have different priority.
-unsecured debt of equal rank can be classified in one class, or
can argue separate classes.

-Even if the debtor’s purpose in classifying is to create a class
of claims that will accept the plan and meet the requirement of
1129(a)(10), the debtor can do so if there is some rational
independent basis for differentiating the claims.

CONFIRMATION OF PLAN

-With respect to a plan of reorganization that does not provide
for liquidation, 1129(a)(11) states as a requirement for
confirmation that the bankruptcy court find that confirmation of
the plan is not likely to be followed by liquidation or further
financial reorganization of the debtor.

PRIORITY CLAIMS

-Under 1129(a)(9)(A) administrative expenses, having first
priority under 507(a), must be paid in full in cash on the
effective date of the plan unless the claimant agrees to different
treatment. In case of involuntary bankruptcy, second priority gap
creditor claims must also be fully paid in cash on the effective
date of the plan.

-A different rule applies to claims with third, fourth, fifth, and
sixth priority. The plan may provide for deferred payment of the
amount of these claims with interest if the affected class accepts
the plan. If the class does not accept, these claims must be
fully paid in cash on the effective date of the plan. Any
claimant can agree to different treatment. [1129(a)(9)(B)].

-Priority tax claims, which have seventh priority, are covered by
1129(a)(9)(C). They must be paid in full, but payment may be
deferred over a period of no more than six years with interest to
reflect the deferral.

SECURED CLAIMS

-Proponent of a reorganization plan may deal with a class of
secured claims in one of three ways: (1) the proponent may leave
the class unimpaired in the plan under 1124; (2) the proponent may
obtain acceptance of the plan by the class and qualify for a
1129(a) consensual confirmation; or (3) if the proponent fails to
obtain acceptance of the class, it may seek cramdown pursuant to
1129(b)(2)(A).

INTEREST ON DEFERRED PAYMENTS

-In a cramdown, the holder of a secured claim is entitled to
receive deferral cash payments having a value at the effective
date of the plan of at least the amount of the secured claim
[1129(b)(2)(A)(i)(II)]. If the payments are to be deferred over
the term of the plan, the plan must provide for interest in order
to assure the creditor of receiving the present value of its
secured claim. The Code offers no guidance on how to chose the
appropriate interest rate.

UNSECURED CLAIMS AND OWNERSHIP INTERESTS

THE BEST INTERESTS RULE

-If a plan of reorganization is approved by all impaired classes
of claims and interests as provided in 1126(c) and (d), dissenting
members of each class are bound so long as the best interests rule
is met. Within each class dissenters must receive at least as
much under the plan as they would have received under a Chapter 7
liquidation.

NONCONSENTING CLASSES: THE ABSOLUTE PRIORITY RULE

-If an impaired class of unsecured claims does not accept the
plan, confirmation of the plan is possible only if cramdown under
1129(b) is permitted. Under 1129(b)(2)(B) the absolute priority
rule applies. If a creditor class is not fully paid no junior
class can receive anything under the plan. Since any class of
stockholder interests is junior to any class of claims the effect
is to bar participation by the stockholders in the reorganized
corporation unless the nonconsenting class of claims is paid in
full.

-If the debtor cannot offer creditors a plan that all classes will
accept, the debtor must conceive a plan that will mee the absolute
priority standard of 1129(b)(2)(B)(ii). A familiar tactic is for
the debtor to propose a plan that allows the debtor’s stockholders
to retain part or all of the ownership of the reorganized
corporation based on their contributing new money equivalent to
the value of the ownership interest they will retain under the
plan.

-Absolute priority rule applies only from dissenting class and on
down. So, if class 3 is the dissenting class below, class 3
can’t complain about what 1 gives up to 2 or 2 gives up to 1, but
can complain about what 1 and 2 give up to 4.
1
2
3 DISSENTING
4
5

-Norwest Bank Worthington v. Ahlers (page 769)
Farmers could not retain their equity interests in the farm by
pledging “labor, experience, and expertise.” This is not new
value. Thus, this is not an exception to the absolute priority
rule.

-Kham & Nate’s Shoes No. 2, Inc. v. First Bank of Whiting (page
773)
Guarantees on a future loan are not new value, even if costly to
the guarantor. They are not a balance-sheet asset. Thus, not an
exception to the absolute priority rule.

EFFECT OF CONFIRMATION OF THE PLAN

-Upon confirmation of a Chapter 11 plan the property of the estate
vests in the debtor unless the plan provides for sale or transfer
to another entity. After confirmation the debtor may deal with
that property in any manner consistent with the plan. [[1141(b)
and 1142]. Confirmation of a plan results in discharge of the
debtor from preconfirmation debts in most cases [1141(d)] and in
termination of the automatic stay. [362(c)]. The bankruptcy court
retains jurisdiction to aid in the implementation of the plan, the
resolution of disputes regarding interpretation of the plan,
modification of the plan, and for various other purposes. [1124
and 1334(b)]. The jurisdiction of the bankruptcy court is not
exclusive, however, and the debtor may be sued in other courts for
breach of its obligations under the plan as well as for breach of
obligations incurred after confirmation.

-Confirmation of a Chapter 11 paln not only discharges
individuals, as in Chapter 7, but corporations and partnerships as
well [1142(d)].

-With respect to corporations and partnerships, 1141(d)(1) makes
all debts dischargeable without respect to 523. But this is not
true for individuals. [1141(d)(2)].

-Confirmation not only discharges the debtor from all prepetition
debts but also from those debts incurred between the date of
petition and the date of confirmation. [1141(d)(1)]. The latter
are usually administrative expenses [503(b)]. The question of
discharge should not ordinarily arise with respect to
administrative expenses because 1129(a)(9)(A) allows the holder of
these claims to demand cash on the effective date of the plan.

-Debtors may not utilize Chapter 11 with its broad discharge
provisions to evade the limitations on discharge set out in 727.
A corporation or partnership cannot be discharged in Chapter 7
liquidation [727(a)(1)] , and they cannot subvert this rule by a
liquidation plan in Chapter 11. [1141(d)(3)]. By the same token,
an individual debtor who is barred from discharge in Chapter 7 by
the provisions of 727 cannot obtain a discharge in Chapter 11 by a
liquidation plan.

MODIFICATION OF THE PLAN

-A debtor that is unable to carry out a confirmed plan may propose
a modification of the plan [1127(b)]. But modification must occur
“before substantial consummation of the plan,” a term defined in
1101(2). Each of the three subparagraphs of 1101(2) must be
satisfied before the plan is substantially satisfied.

-Subparagraph A is intended to refer to a plan providing for a
liquidation of assets of the estate. In such a case, the plan is
not substantially consummated until the sale of substantially all
of the assets to be liquidated is completed.

-If a modification is permissible under 1127, 1127(c) requires
that disclosure with respect to the plan as modified must be given
as required by 1125. But Rule 3019 ameliorates this requirement
by providing that if tthe court finds that a proposed pre-
confirmation modification does not “adversely change” the rights
of creditors or equity owners who have not accepted the
modification, the modified plan will be deemed accepted by all
creditors and equity owners who have previously accepted the plan.

-If modification is not possible and the debtor cannot carry out
the plan, the debtor can convert to a Chapter 7 and liquidate.

-The serial (one after anotheer) filing of Chapter 11 cases is not
per se grounds for dismissal. The only limitationt the court
recognizes is a requirement that the subsequent plan be filed in
good faith.

BANKRUPTCY COURTS

-1334(a) gives federal district courts exclusive jurisdiction over
“all cases under title 11? except as provided in 1334(b). “Case”
under 1334(a) refers to the procedure, following the filing of a
petition in bankruptcy, that involves the administration of the
debtor’s estate.

-1334(b) gives the district courts nonexclusive jurisdiction “of
all civil proceedings arising under title 11, or arising in or
related to cases under title 11?. “Proceedings” refers to the
controversies and disputes occurring during the life of the
bankruptcy case.

-Under 28 U.S.C. 151, the bankruptcy judges constitute a unit of
the district court called the bankruptcy court. They are
appointed for 14 year terms by the court of appeals of the
circuit. District courts refer to bankruptcy judges all cases and
proceedings within the district court’s 1334 jurisdiction.
[157(a)]. 157(b)(1) says that for “core” cases, bankruptcy judges
may “hear and determine” the matter and enter final judgment
subject only to appeal under 158. However, for matters that are
not core proceedings but are “otherwise related” to cases under
title 11, 157(c)(1) provides that the bankruptcy judge acts, in
effect, as a master. In that role the bankruptcy judge submits
proposed findings of fact and conclusions of law to the district
court which reviews de novo any “matters to whicch any party has
timely and specifically objected.” But if the parties consent,
the bankruptcy judge can enter a final order in an “otherwise
related case” as well [157(c)(2)].

-The nonexclusive enumeration of core proceedings in 157(b)(2)
includes matters within the jurisdiction of the bankruptcy courts
under ttthe former Bankruptcy Act “summary jurisdiction” rubric,
such as administration of the estate, allowance of claims,
counterclaims against persons filing claims, motions affecting
stays, confirmation of plans, etc. Excluded from the core
proceedings expressly are claims against the estate for personal
injury tort or wrongful death [157(b)(2)(B)]. These claims must
be tried in the District Court [157(b)(5)]. A jury may bbe
demanded in such a case [1411].

-The prevailing view is that a proceeding by a trustee or debtor
in possession to collect a state law claim arising from a
postpetition contract is a core matter.

-An action to collect prepetition accounts is not a core
proceeding.

-The minority view reads 542(b) as authorizing a turnover order in
cases in which a defendant owes the debtor a matured debt and
views 157(b)(2)(E) as making a proceeding under 542(b) a core
proceeding. For example, In Re Lion Capital Group holds that an
order to compel limited partners to comply with a contractual
obligation to make a capital contribution is a turnover order
under 542(b) and is thus a core proceeding under 157(b)(2)(E).

-The majority view is that these two provisions should not be
construed to allow trustees and debtors in possession to collect
prepetition contract claims in the face of Marathon, at least in
cases in which the defendant in good faith disputes its liability
on the debt. Since the existence of a dispute is the universal
characteristic of litigation, this view effectively denies these
proceedings core status.

-In Beard v. Braunstein, the court held that an action by a
Chapter 7 trustee in bankruptcy to recover prepetition and
postpetition rents from a tenant under a prepetition lease was a
noncore proceeding.

WITHDRAWAL OF CASE FROM BANKRUPTCY COURT

-Under 157(d), a district court has discretion to withdraw a case
or proceeding from a bankruptcy court for cause. This provision
also mandates withdrawal “if the court determines that resolution
of the proceeding requires consideration of both title 11 and
other laws of the U.S. regulating organizations or activities
affecting interstate commerce.”

-Case law has held that mandatory withdrawal is required in any
case in which “substantial and material consideration” of federal
statutes, in addition to the Bankruptcy Code, is required for
resolution of the case.

ABSTENTION

-1334(c)(2) requires district courts, upon motion of a party, to
abstain from hearing a state cause of action over which they have
jurisdiction solely because the claim is “related to a case under
title 11? when the action on the claim “is commenced, and can be
timely adjudicated, in a State forum of appropriate jurisdiction.”
Although this language is ambiguous, the majority view is that a
state court proceeding must be pending at the time the order to
abstain is entered.

-Under 1334(c)(2), any decision to abstain or not to abstain is
not reviewable by a court of appeals of the Supreme Court.

APPEALS

-158 provides that appeals from bankruptcy courts can be taken
only to district courts unless the parties consent to an appeal to
a Bankruptcy Appellate Panel (BAP). There can be no direct appeal
from a bankruptcy court to the court of appeals.

VENUE

COMMENCEMENT OF THE CASE

-1412 allows the transfer of cases or proceedings under title 11
to a district court for another district “in the interest of
justice or for the convenience of the parties.” The court to
which the matter is transferred must have had jurisdiction in the
first place or the change of venue would be futile. Factors to
consider, according to In Re Commonwealth Oil Refining Co., are:
(1) proximity of

creditors; (2) proximity of debtor; (3) proximity of witnesses;
(4) location of assets; (5) promotion of the economic and
efficient administration of the estate.

-Under 1408(1), for a non-business individual the petition may be
filed in the district in which the debtor has resided or was
domiciled for the 180 days preceding the filing. A possible
basis for venue for such an individual would also be the district
in which the debtor’s principal assets are located, but in the
typical case these would be located in the same district as the
residence.

-For business debtors a petition may be filed under 1408 in the
district where (1) the debtor resides or is domiciled; for a
corporation this is usually the state of incorporation; (2) the
debtor’s principal place of business is located; this is usually
the company’s headquarters; (3) the debtor’s principal assets are
located; if the debtor’s assets are in more than one district,
arguably the term “principal” would indicate the district in which
more assets are located than in any other district; (4) the
bankruptcy of an affiliate is pending; and (5) where the case has
been filed if no one moves to transfer or dismiss the case as one
filed in an improper venue under Rule 1014(a)(2).

PROCEEDINGS IN THE CASE

-Venue with respect to proceedings “arising under title 11 or
arising in or related to a case under title 11? is governed by
1409. Subsection (a) states the general rule that these
proceedings may be brought in the court where the case is pending,
sometimes called the “home court.”

-1409(a) is permissive; thought a proceeding may be brought in the
home court, it may also be brought in other courts. The potential
is present for creditors to bring proceedings in venues that are
extremely inconvenient for debtors. Examples are motions to lift
the automatic stay, nondischargeability determinations, and
challenges to claims of exemption.

-1409(b) carves out an exception out of this rule in providing
that a trustee may sue “to recover a money judgment of or property
worth less than $1,000 or a consumer debt of less than $5,000?
only in the district in which the defendant resides.

-1409(c) offers an alternative to the home court rule of (a) if
the trustee is suing as a statutory successor to the debtor under
541 or to a creditor under 544(b). Under 541 the bankruptcy
estate may include causes of action and the trustee may be suing
as the debtor’s statutory successor. 544(b) allows the trustee to
avoid transfers or obligations that are voidable by creditors
having allowable unsecured claims. Takind 1409(a) and (c)
together, the trustee has the alternative of suing either in the
home court or in the district court of the district that would
have had venue had the debtor or creditor brought suit under
nonbankruptcy law. (c) is expressly made subject to (b).

-With respect to a postpetition claim by the trustee against
others arising out of the operation of the debtor’s business, (d)
provides that the trustee may sue only in the district court of
the district in which the suit could have been brought under
nonbankruptcy law.

-With respect to a postpetition cause of action against the
bankruptcy estate arising out of the operation of the debtor’s
business, (e) states that the suit may be brought either in the
court in which the bankruptcy case is pending or in the district
court of the district in which the suit could have been brought
under nonbankruptcy law.

JURY TRIAL

-157(b)(5) requires that district courts rather than bankruptcy
judges hear personal injury tort and wrongful death claims against
the estate. 1411(a) requires that in cases in which these kinds
of claims are asserted the parties have a right of jury trial if
they would have had this right in a trial of such claims outside
bankruptcy.

-Granfinanciera, S.A. v. Nordberg (page 843)
ISSUE: Whether a person who has not submitted a claim against a
bankruptcy estate has a right to a jury trial when sued by the
trustee in bankruptcy to recover an allegedly fraudulent monetary
transfer.
HELD: The 7th Amendment entitles such a person to a trial by
jury, notwithstanding Congress’ designation of fraudulent
conveyance actions as “core proceedings” in 157(b)(2)(H).

-In Langenkamp v. Culp, the Supreme Court held that if a creditor
who files a claim is sued by the trustee to recover a voidable
preference, the creditor is not entitled to a jury trial on the
preference question under the 7th Amendment. Thus, you can do one
or the other!

-If the party does not submit a claim against the bankruptcy
estate, however, the trustee can recover allegedly preferenttial
transfers only by filing what amounts to a legal action to recover
a monetary transfer. In those circumstances, the preference
defendant is entitled to a jury trial.

by: Ross E. Kimbarovsky

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