By: Donald L Swanson
Approvals of settlements through a motion process under Fed.R.Bankr.P. 9019(a) are commonplace.
But what about a settlement that’s included in a Subchapter V plan for approval—i.e., where confirmation of the plan will accomplish approval of the settlement?
This opinion from the U.S. Third Circuit Court of Appeals addresses the settlement-approval by confirmation of a Subchapter V plan: The Reed Action Judgment Creditors v. Alecto Healthcare Services, LLC, Case No. 25-1853 (3rd Cir., decided July 28, 2026). This opinion affirms:
- a Delaware Bankruptcy Court ruling[fn. 1] that confirms Debtor’s Subchapter V Plan; and
- a U.S. District Court of Delaware ruling[fn. 2] that affirms.
What follows is a summary of the Third Circuit’s Reed v. Alecto opinion on approving a settlement by confirming a Subchapter V plan in which it is contained.
Facts
Debtor files a Subchapter V Petition.
The Bankruptcy Court appoints Investigator to investigate, bring, and settle claims against insiders.
Investigator completes the investigation and approves a Settlement of claims against insiders that provides for releasing avoidance claims against insiders in exchange for their payment of $25,000.
The Settlement is incorporated into Debtor’s Subchapter V Plan.
Creditors object to confirmation of Debtor’s Plan, arguing that approval of the Plan would approve the Settlement, and the Settlement would release Debtor’s avoidance claims against insiders that arise from the 2019 Sunrise Transfer.
In the 2019 Sunrise Transfer, Debtor transfers ownership of a subsidiary, Sunrise Real Estate Holdings, LLC, to insiders for $28.4 million.
In 2021, the same assets are transferred back to Debtor for no consideration, and Debtor thereafter sells the same assets for over $58,000,000.
Creditors argue in their Plan objection that:
- Debtor received less than reasonably equivalent value for the 2021 sale;
- so, the Debtor can avoid the transfer as fraudulent, under California law, because Debtor “intended to incur . . . debts beyond the debtor’s ability to pay” (Cal. Civ. Code § 3439.04(a)(2)(B)); and
- the Plan provides that California law “shall govern” all rights and obligations under the Plan.
At a hearing, Investigator testifies that no viable avoidance claim exists against insiders because:
- Debtor was solvent at the time of the transaction; and
- suing Debtor’s insiders would be costly and reduce the funds Debtor could use to pay creditors.
So, Investigator supports approval of the $25,000 Settlement.
Bankruptcy Court Ruling
The Bankruptcy Court overrules Creditors’ objections to the Plan and confirms the Plan, concluding:
- Investigator determines that no viable fraudulent conveyance claim exists and supports the Settlement; and
- such determination is reasonable because (i) litigation will likely be unsuccessful and expensive, and (ii) creditors want the $25,000 Settlement money.
Appeals
The District Court agrees and affirms, holding that the Settlement is appropriate because Creditors “failed to demonstrate” that the Settlement and releases fall below “the lowest point in the range of reasonableness.”
Then, Creditors appeal to the U.S. Third Circuit Court of Appeals, which also affirms.
Standard of Review
We review the approval of a settlement for abuse of discretion.
Under this standard, we do not disturb an exercise of discretion unless there is a definite and firm conviction that the court committed a clear error of judgment.
Put another way, for us to find an abuse of discretion the District Court’s decision must rest on a clearly erroneous finding of fact, an errant conclusion of law or an improper application of law to fact.
Applying that Standard
The Bankruptcy Court acted within its discretion in approving the Settlement.
Under Fed.R.Bankr.P. 9019(a), a bankruptcy court has authority to “approve a compromise or settlement” of a claim “after notice [to the debtor, trustee and creditors] and a hearing” thereon.
The bankruptcy court must then decide whether the settlement is “fair and equitable.” In the Third Circuit, this involves assessing and balancing the these four factors:
- the probability of success in litigation;
- the likely difficulties in collection;
- the complexity of the litigation involved, and the expense, inconvenience and delay necessarily attending it; and
- the paramount interest of the creditors.
Such four factors are commonly called the “Martin factors,” being derived from a case of that name.
In applying the Martin factors, a court:
- need not decide the numerous questions of law or fact raised by litigation; but
- instead should canvas the issues to determine whether the settlement falls above the lowest point in the range of reasonableness.
In this case, the Bankruptcy Court properly assessed the Martin factors and provided explanations tethered to the record for its conclusion that “the proposed settlement falls within a reasonable range of litigation possibility.”
–First Factor (Probability of Success in Litigation)
The Bankruptcy Court determines that “the claims have very little probability of success on the merits, if any,” based on unrebutted testimony and evidence presented at the hearing regarding Debtor’s solvency at the time of the transfer in question.
Creditors argue that the Bankruptcy Court improperly placed the burden on Creditors to show that Debtor was insolvent when it made the transfer. This argument is misplaced, for three reasons.
First, because objecting parties bear the burden of producing evidence to support their objections, Creditors were required to show that Debtor was insolvent at the time of the transfer. So, the Bankruptcy Court properly (i) relied on Debtor’s evidence of solvency, and (ii) required Creditors to offer rebuttal evidence to support their objection.
Second, Debtor was not required to present testimony from a solvency expert to obtain approval of the Settlement. That’s because a bankruptcy court is not required to conduct a mini-trial on the merits when deciding whether to approve a proposed compromise in a bankruptcy. Instead, a bankruptcy court need only canvass the issues:
- a bankruptcy court need not conclusively determine claims subject to a compromise; and
- a bankruptcy court need not have all the information necessary to resolve the factual dispute—for by so doing, there would be no need of settlement.
Third, the Bankruptcy Court acted within its discretion in relying on internal Debtor documents that supported the unrebutted conclusion that Debtor was solvent at the relevant time.
Thus, the Bankruptcy Court’s assessment of the first Martin factor did not rest on a clearly erroneous finding of fact.
–Second Factor (Collection Difficulties)
The Bankruptcy Court concluded the second factor is “neutral” because “there was no evidence regarding the possibility of collection on any judgment.”
–Third Factor (Complexity, Expense & Delay)
The Bankruptcy Court determined that any litigation, absent the settlement, would be complicated and that Debtor “would face increased expense, inconvenience and delay attending to litigation.”
–Fourth Factor (Interests of Creditors)
The Bankruptcy Court suggests that the Settlement would benefit the creditors, who will receive distributions from Debtor, which will include funds from the Settlement.
–Summary
The Bankruptcy Court appropriately considered the four Martin factors and, thus, did not abuse its discretion in approving the Settlement.
Conclusion
Very interesting.
[Note: this is the third in a series of three articles on the Reed v. Alecto opinion from the Third Circuit Court of Appeals.]
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Footnote 1. The Delaware Bankruptcy Court ruling is, In re Alecto Healthcare Services LLC, Case No. 23-10787 (decided December 4, 2023; Doc. 243).
Footnote 2. The Delaware U.S. District Court ruling is The Reed Action Judgment Creditors v. Alecto Healthcare Services, LLC (In re Alecto Healthcare Services, LLC), Civ. No. 24-494 (Lead) & Civ. No. 23-1442 (Consolidated); decided March 31, 2025.
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