Introduction 700 I. The Historical Origins of the Equality Norm 704 A. Equality in Traditional Bankruptcy 704 B. The "Fair and Equitable" Requirement in Railroad Reorganizations 709 II. Ways to Evade the "Equality of Creditors" Norm 714 A. Evading the Preference Provision 714 B. Using the Executory Contract Rules to Favor a Particular Creditor 716 C. Designating Favored Creditors as "Critical Vendors" 717 D. Incorporating Favored Treatment into a Sale 718 E. Subverting Equality in the Reorganization Plan Itself 718 III. REINVIGORATING THE EQUALITY OF CREDITORS NORM 720 A. What Might Reform Look Like? 720 1. Preferences 720 2. Executory Contracts 721 3. The Other Departures From Equality 722 B. The Implications of Greater (or Lesser) Equality 723 IV. Rethinking the Equality of Creditors Norm 724 A. Equality's Original Home: The Preference Provision 724 B. Moving Beyond Equality: Sales and Other Issues 729 1. Tweaking the Treatment of Executory Contracts 729 2. Clarifying Critical Vendor Doctrine 732 3. Policing Unu sual 363 Sales 733 4. Unfair Discriminat ion 734 C. Equality of Creditors in Consumer Bankruptcy or Liquidation 736 1. Equality in Consumer Bankruptcy 736 2. Equality in Chapter 7 Liquidation 738 D. Pari Passu Treatment: The Last Redoubt of Equality of Creditors? 739 V. Is Anything Left for Equality? 741 A. The Role of an Equality Concept 741 B. The Bankruptcy Contrast 742 Conclusion 744 INTRODUCTION
The equality of creditors norm is widely viewed as the single most important principle in American bankruptcy law, rivaled only by our commitment to a fresh start for honest but unfortunate debtors. (1) Equality of creditors teaches that similarly situated creditors should be treated similarly Thus if one general creditor will be paid 25% of what it is owed, others also should receive 25%.
A glance at any bankruptcy casebook confirms the centrality of the principle. The leading casebook assures its readers that the trustee in a bankruptcy case "stands for the proposition that equity is equality." (2) "That maxim," the authors explain, "means that unless a creditor can clearly demonstrate that it deserves some priority in the bankruptcy payout, the trustee will assume all creditors are equal and try to maximize the pot for that collective." (3) "By treating all unsecured creditors the same," they say, in another of their numerous references to the principle, "that is, for all to collect a pro rata share of whatever is available for distribution... bankruptcy reinforces the goal of equality among these unsecured creditors." (4)
Yet if we look at current bankruptcy practice, creditor equality seems to be rapidly disappearing. Bankruptcy courts often bless arrangements that give one group of general creditors starkly different treatment than other groups. In the Chrysler bankruptcy, Chrysler's retirees, trade creditors, tort creditors, and the unsecured portion of its senior bondholders' claims all had general unsecured claims. If the equality of creditors principle were vigorously pursued, we would expect each to receive roughly the same recovery. But they did not. The retirees and trade creditors were paid in full, or nearly so, while tort creditors and the bondholders' deficiency claims received almost nothing. (5) Parallel patterns can be seen in the ordinary run of cases as well. In many recent cases, debtors have used restructuring support agreements to secure the approval of creditors, sometimes offering side payments to creditors if they sign the agreement, but not to creditors that decline to sign. (6) As a result of these maneuvers, the recoveries of seemingly similar creditors are often widely divergent.
Ironically, equality's disappearance in bankruptcy occurred as equality ascended in other contexts, as reflected most recently in the success of the movement for same-sex marriage. (7) Equality sometimes seems to be the central principle in American life, but in bankruptcy it is rapidly losing purchase.
These developments have attracted surprisingly little attention in the scholarly literature thus far. Almost the only exception is a recent article by Mark Roe and Fred Tung. (8) Analyzing creditors' efforts to obtain special status through legislation or transactional innovation, Roe and Tung characterize the heightened protection as "priority jumps." (9) Their particular concern is the interest group dynamic that enables some creditors--especially large financial institutions--to secure priority for their claims in recent bankruptcy cases. (10)
My focus in this Article is somewhat different. My concern is with the shifting treatment of general creditors, and with the rhetorical power of bankruptcy's "equality of creditors" principle, which does not come into play in the "priority jump" analysis. I analyze the questions of priority that do arise in terms of their implications for (horizontal) relations among creditors with the same priority and ask what these and other developments mean for the "very policy and object of the bankrupt law," (11) as one early court put it, or, as another court put it, the "cardinal purpose of the legislation [that] must never be overlooked." (12)
The erosion of creditor equality in recent practice raises two questions that lie at the heart of this Article: How difficult would it be to resuscitate equality of creditors? And just how beneficial would the project be? The good news is that reinvigorating equality would be surprisingly easy. Although several of the recent departures from equality would require legislative reform to correct, others would not. And in each case, the adjustments would be quite straightforward. (13)
The problem is that the equality norm itself contributes nothing to the analysis. As we begin to assess whether equal treatment would be beneficial in each of the doctrinal contexts, it quickly becomes clear that the key considerations lie elsewhere--with concerns such as curbing self-dealing or secret liens, (14) and maximizing the value of the debtor's estate. Although equality originally served as a rough proxy for some of these issues, this is no longer the case. In some contexts, the equality language is unnecessary but harmless. But in others, its historical pedigree and rhetorical resonance have been pernicious. If chicken soup can't hurt and may help a person who has a cold, the equality norm is the opposite: in current bankruptcy practice, it can't help--and it may (and does) hurt.
I begin (in Part I) by attempting to discover where the equality norm came from. The first place to look is the English predecessors to the earliest American bankruptcy laws. Hints of the equality principle can be found in the early English cases, and creditor equality was given a ringing endorsement in America in an influential 1807 case. (15) That case, like many of the cases that followed, involved preferences--payments or transfers made to a favored creditor shortly before bankruptcy--which were condemned as a violation of the equality of creditors principle. Under the 1841, 1867, and 1898 Acts, preferences could be retrieved from creditors who received them, and a debtor that had made a preferential payment could be denied access to bankruptcy. (16)
Throughout the nineteenth century, the domain of the equality of creditors was limited to individual and small business bankruptcy cases. The principle played little role in reorganization cases involving substantial corporations, for reasons explored at the end of Part I. After Congress finally codified large-scale corporate reorganization in 1933 and 1934, however, the norm quickly spread to these cases as well. As with many central bankruptcy issues in the 1930s and 1940s, Justice William Douglas played a key role in the diffusion of the norm throughout all of American bankruptcy law.
After tracing the historical origins of creditor equality, I ask (in Part II) how debtors and favored creditors so often manage to circumvent the equality norm. It turns out that current bankruptcy law provides numerous devices for privileging one creditor or group of creditors over others. I briefly describe five of the most important. The strategies range from transferring value to the creditor prior to bankruptcy, to assuming the creditor's contract in bankruptcy, or to proposing to pay the creditor more than another class of unsecured creditors in connection with a plan of reorganization. (17)
If courts and lawmakers were committed to promoting equality, they could clamp down on each of these strategies for evasion. Briefly revisiting each, I consider (in Part III) how equality might be enhanced. In each context, courts or lawmakers could reinvigorate equality by making simple adjustments to existing doctrine. Lawmakers could remove the safe harbors that protect many preferences from avoidance, for instance, and courts could prohibit the special treatment of "critical vendors" and tighten the rules for classification of claims.
The question (the focus of Part IV) is whether reinvigorating the equality of creditors norm would improve bankruptcy law. I conclude that it would not. Equality does not appear to be the central concern with any of the doctrines I consider. In each context, the real issues, as noted above, are policing self-dealing, reducing the risk of "secret liens," or maximizing the value of the debtor's assets. (18) The case for retaining a vestige of the equality norm is slightly stronger in consumer cases and Chapter 7 liquidations, since these cases more closely resemble the context in which equality of creditors first emerged. But creditor equality does not play a meaningful role in practice even there.
In the final Part of the Article, I ask whether there are any other reasons for retaining the equality of creditors norm despite its apparent obsolescence. As I address this question, I consider the most compelling responses to the famous article referenced in my title, (19) as applied to...