9.8 Treatment of Collateral That Is Not Disposed of During Bankruptcy

• Library: Enforcement of Liens and Judgments in Virginia (Virginia CLE) (2019 Ed.)

9.8 TREATMENT OF COLLATERAL THAT IS NOT DISPOSED OF DURING BANKRUPTCY

9.801 Methods of Disposition. Collateral can be disposed of during the administration of the bankruptcy by many methods, including abandonment, the lifting of the automatic stay and subsequent foreclosure, the sale of assets free and clear of liens, and the avoidance of liens.

9.802 Chapter 11 Plans. If collateral is not disposed of during the debtor's bankruptcy case, a Chapter 11, 12, ³⁴⁹ or 13 debtor may attempt to retain the collateral pursuant to a plan of reorganization. Although the debtor's plan may attempt to restructure the payment terms and the interest rate that will be applicable to a secured claim, ³⁵⁰ a Chapter 11 plan must provide (unless the secured creditor otherwise agrees) that the creditor: (i) retain the liens securing the claim; (ii) be granted an equivalent lien on the proceeds of all collateral that is sold pursuant to the plan; or (iii) receive the indubitable equivalent of the claim. ³⁵¹

Section 1123 of the Code contains both mandatory and permissive provisions regarding the components of a Chapter 11 plan. Most importantly, a plan may impair a creditor's claim, which means that it is permissible not to pay creditors in full. The Code, however, does place limitations upon impairment, which is defined in section 1124, by requiring that the

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impairment be rational. This is accomplished through the Code's requirement that all plans designate classes of creditors. ³⁵² Each class can only contain creditors who are substantially similar, and the plan must treat each member of a class in a like manner. ³⁵³ Although the Code states that a class can only include claims that are similar, the Code does not, on its face, prevent the separate classification of similar claims. Courts have limited a debtor's ability to separately classify similar claims, however, holding that in order to do so, the debtor must have a rational basis for the separate classification and the motive for the classification cannot be to gerrymander affirmative votes for the debtor's plan of reorganization. ³⁵⁴ The classification limitations, combined with the section 1123(b)(1) concept of impairment by class, prohibit arbitrary treatment of creditors. Usually, each secured claim, unless the secured creditors of a group have a joint claim against the debtor, is placed in a separate class.

The Code permits the plan to reinstate the maturity date of accelerated debt. ³⁵⁵ The debtor may retain collateral as a part of the plan if the plan satisfies the various standards for confirmation including, without limitation (unless the secured creditor otherwise agrees), that the secured creditor retain the liens securing the secured claim and that the secured creditor "receive on account of such claim deferred cash payments totaling at least the allowed amount of such claim, of a value, as of the effective date of the plan, of at least the value of the holder's interest in the estate's interest in such property." ³⁵⁶

The Code provides creditors the ability to participate in the plan process by creating the concept of "acceptance." ³⁵⁷ Although each individual impaired creditor is entitled to vote on the plan, voting is done by the classes created under the plan. If the majority of the members of a specific class vote to accept the plan, then the entire class is bound by the terms of the plan. The Code provides that a class has accepted a plan when the holders of one-half

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in number and two-thirds in amount of the claims in the class approve the plan. ³⁵⁸ For purposes of determining acceptance, only the claims of creditors who actually participate in the voting process are counted.

Because of the importance of the voting process, it is essential that the plan proponent disseminate adequate information about the plan, including potential tax consequences, which would enable a hypothetical reasonable investor typical of holders of claims or interests of the relevant class to make an informed judgment about the plan. ³⁵⁹ This type of information is disseminated in a disclosure statement that has been determined by the court to contain adequate information in light of the complexity of the case, the benefit of additional information, and the cost of providing additional information. ³⁶⁰ Interested parties are given the opportunity to participate in the hearing held on the adequacy of the disclosure statement and to object if they believe the information provided is inadequate.

After dissemination of an approved disclosure statement and completion of the voting process, the plan proponent will tally the votes and the court will hold a confirmation hearing. Confirmation is addressed in section 1129 of the Code. To confirm a plan, the court must find that each creditor has either accepted the plan or received under the plan what it would have received in a Chapter 7 liquidation. This latter requirement is commonly referred to as the "best interests" test. ³⁶¹ This test does not apply when all members of a class have affirmatively accepted the plan. ³⁶²

Even though one or more classes may reject the plan, confirmation remains possible under the Code as long as the plan is accepted by at least one impaired class. ³⁶³ Confirmation under section 1129(b)...