When “Unimpaired” =/= Pay In Full (In re Hertz)

Unimpaired (photo by Marilyn Swanson)

By Donald L. Swanson

Claims are “impaired,” unless the plan “leaves” their rights “unaltered.”  § 1124(1).

This rule is not as simple and unequivocal as it seems, according to an In re Hertz opinion. [Fn. 1]   Here’s why.

Plan Treatment of Unsecured Claims

Claims of unsecured creditors in the Hertz bankruptcy are treated, under its Chapter 11 Plan, as follows:

  • They are classified as “unimpaired”—which means they do not get to vote on Debtors’ Plan;
  • They will not receive post-petition interest under the Plan; but
  • Debtors are solvent, and the ownership class will receive a distribution of >$1.5 billion.

Impaired v. Unimpaired–Arguments

Unsecured creditors argue that, because of their Plan classification as unimpaired, their claims are entitled to receive post-petition interest at their contract rates.  That’s because § 1124(1) provides:

  • A class of claims is “impaired,” unless the plan “leaves unaltered the legal, equitable, and contractual rights to which such claim or interest entitles the holder of such claim or interest.”

Debtors disagree, citing a Third Circuit opinion, which holds that an unsecured claim to post-petition interest is disallowed by operation of the Bankruptcy Code, not by the Plan—this means that unsecured claims are not impaired under § 1124(1), despite the plan’s refusal to pay post-petition interest.

Unsecured Creditors argue, in return, that the Third Circuit opinion is distinguishable because it deals with the effect of § 502(b)(6) on landlord claims, instead of the effect of § 502(b)(2) on post-petition interest for unsecured claims.  Regarding this distinction, unsecured creditors say:

  • § 502(b)(6) imposes an absolute cap on a landlord’s claim; while,
  • § 502(b)(2) is not absolute—in fact, it’s not even effective where (as in Hertz) debtor is solvent (see § 726(a)(5) and § 1129(a)(7)).

Ruling

–Illusory Distinction

“Illusory”: that’s how the Court describes the unsecured creditors’ distinction between § 502(6) and § 506(2).  Here’s why:

  • Unsecured creditors’ argument conflates allowance of claims with treatment of claims under a plan;
  • § 502(b) addresses allowance of claims, while § 726(a)(5) and § 1129(a)(7) address the treatment of claims when debtor is solvent;
  • Regarding allowance, § 502(b)(2) is as absolute as § 502(b)(6)—it disallows all post-petition interest on unsecured claims;
  • In the rare case of a solvent debtor, unsecured claims are entitled to post-petition interest under § 726(a)(5) and § 1129(a)(7), but not at the contract rate (which is disallowed by § 502(b)); and
  • § 726(a)(5) and § 1129(a)(7) require post-petition interest accruals in a solvent case—but only at the federal judgment rate.

–Disallowance: by Code v. by Plan

The Hertz opinion follows many legal authorities, including (i) In re Ultra Petroleum Corp., 943 F.3d 758 (5th Cir. 2019), (ii) “every reported decision identified by either party,” and (iii) “Collier’s treatise.” 

All of such authorities recognize the following rule:

  • “Where a plan refuses to pay funds disallowed by the [Bankruptcy] Code, the Code – not the plan – is doing the impairing”; and
  •  Modification of a claim by the Bankruptcy Code does not create impairment under § 1124(1).

Therefore, any disallowance of unsecured claims to post-petition interest is accomplished by the Bankruptcy Code—not by the Plan.  It is an impairment of contract by operation of § 502(b)(2)—not by operation of the Debtors’ Plan.

The result is this: though unsecured creditors’ claims to post-petition interest at contract rates are not being paid under the Plan, such claims are still unimpaired within the meaning of § 1124(1).

Conclusion

The question of impairment under § 1124(1) is not as simple as asking, “Are the rights of a creditor, under the Plan, left unaltered.”

An additional inquiry is whether the Bankruptcy Code or the Plan does the altering.

—————————

Footnote 1.  The opinion is Wells Fargo Bank, Indenture Trustee v. The Hertz Corp. (In re The Hertz Corp), Adv. P. No. 21-50995, Delaware Bankruptcy Court (issued December 22, 2021, Doc. 28).

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