By: Donald L Swanson
Subchapter V has an “engaged in commercial or business activities” criterion for eligibility.
Court opinions applying such criterion appear to be trending in this direction: what’s required is “not much.”
A new appellate opinion demonstrating this trend is In re RS AIR, LLC, Case No. 20-51604, Ninth Cir. BAP (issued 4/26/2022, for publication).
Facts
RS Air begins operating in 2001.
It buys and sells fractional interests in private jets, provides depreciation tax benefits to Its owner, flies people and flies packages (e.g., containing fragile technology prototypes that might be damaged on commercial flights).
NetJets uses RS Air’s services for many years, under a series of contracts. That stops in July 2017 when RS Air’s jet is in a non-injury runway crash, caused by a NetJets pilot (so says RS Air)
Because of the crash, RS Air stops doing business with NetJets and stops doing normal flight operations.
Then, NetJets sues RS Air for breach of contract, and RS Air counterclaims for breach of contract and fraud.
On the eve of trial, RS Air files bankruptcy under Subchapter V.
NetJets moves to dismiss the bankruptcy, claiming RS Air is not eligible for Subchapter V because RS Air is not “engaged in commercial or business activities.”
The bankruptcy Court denies the dismissal motion as a “close decision” (Doc 255, at 5). NetJet appeals.
Arguments
NetJets argues, for dismissal, that RS Air:
- has no flight operations, since at least 2017;
- has no revenue or income, since as early as 2012;
- has no employees;
- has never been a revenue-generating business; and
- has a sole purpose of enabling its owner to acquire and use private jets.
In opposition, RS Air argues that Subchapter V eligibility does not require ongoing operations, employees, or historical profitability.
Instead, says RS Air, the following activities are sufficient, in combination, for “engaged in” eligibility:
- litigating with NetJets;
- negotiating with NetJets to sell fractional jet interests back to NetJets;
- paying its aircraft registry fees;
- remaining in good standing as a Delaware LLC;
- keeping its state and federal tax obligations current; and
- intending to resume normal flights operations when able.
BAP’s Ruling
The BAP affirms Debtor’s Subchapter V eligibility and declares an important rule of eligibility law.
The eligibility rule is this: “a profit motive is not required“ to satisfy the “engaged in” requirement of § 1182(1)(A).
What follows is a summary of the BAP’s rationale for this eligibility rule and its application.
Meaning of Words
As to the meaning of “engaged in commercial or business activities,” the Bankruptcy Code gives no help. So, case law fills in the gap.
A majority of courts applying the “engaged in” criterion hold that, on the petition date:
- a debtor need not be “actively operating”; but
- must be “presently” engaged in commercial or business activities.
A past-engagement in such activities, alone, is not sufficient.
What about no longer operating?
When a debtor is no longer operating, what types of “activities” are sufficient for eligibility?
Courts generally hold that the scope of commercial or business activities is ”very broad” and apply a “totality of the circumstances” standard.
Here are examples of eligibility from other cases:
- maintenance of bank accounts, working with insurance adjusters and defense counsel to resolve claims, and selling assets;
- actively pursuing litigation against a third party, collecting receivables, maintaining debtor’s facility, selling an asset, and filing tax returns;
- working as an IT consultant for a non-related entity and winding down a former IT business;
- having active bank accounts and accounts receivable, exploring counterclaims in a pending lawsuit, managing debtor’s stock, winding down debtor’s business, and taking steps to pay creditors and realize value for debtor’s assets; and
- performing wind down work and dealing with tax accountants and tax issues for debtor’s defunct LLC.
Here are examples of what’s NOT eligible (note that all are individual debtors):
- an individual whose entities have been inactive for years, with no ongoing activity of any type and no intent to reactivate any of them;
- individuals whose companies are defunct and who are W-2 wage earners, even though husband is serving as president of a non-related business; and
- individual debtors who sell their business, retire, and have no intention to return to business, but keep their LLC in good standing with only accounts receivable to collect.
RS Air’s activities
On the petition date, RS Air is engaged in the following commercial or business activities:
- litigating with NetJets;
- paying aircraft registry fees;
- remaining in good standing as a Delaware LLC;
- filing its tax returns and paying taxes; and
- intending to resume fractional jet ownership and flight operations with a different partner once able.
Such activities are “commercial or business activities” within the meaning of § 1182(1)(A).
Profit motive
The lack of income or a profit motive in such activities is irrelevant.
NetJets’s arguments to the contrary merely cherry-pick quotes from cases, by:
- highlighting such phrases as “viewed with regard to profit,” “purchasing or selling of economic goods or services for a profit,” and “undertaken for the purpose of earning income”;
- ignoring corresponding phrases like “dealings . . . of an economic nature,” since the following items qualify as such—depreciation tax benefits, revenue from flight operations, and buying/selling fractional interests;
- ignoring that courts interpret the “engaged in” phrase “broadly”;
- failing to recognize that non-profit entities can qualify for Subchapter V, because a profit motive is not required by the statutory terms and because Congress chose not to exclude non-profit entities from Subchapter V; and
- ignoring that the only types of entities Congress explicitly excluded from Subchapter V eligibility are single asset real estate and SEC-affiliated entities.
Accordingly, RS Air’s lack of profit motive does not render it ineligible for Subchapter V.
Conclusion
The trend is toward “not much” on what’s required to satisfy the “engaged in commercial or business activity” criterion for Subchapter V eligibility.
The new RS Air opinion from the Ninth Circuit BAP, and it’s declaration that a “profit motive” is not required, is the latest installment in opinions demonstrating the trend.
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