Restructuring

This is the fourth and final post in our series on Judge Sontchi’s postpetition interest decision in Energy Future Holdings, issued on October 30, 2015.  Our first post in this series analyzed Judge Sontchi’s ruling that postpetition interest on an unsecured claim does not constitute a part of the unsecured claim itself.  Our second post addressed the court’s use of the federal judgment rate as “the legal rate” under section 726(a)(5) of the Bankruptcy Code.  Our third post addressed the court’s ruling that, to be fair and equitable, a solvent debtor’s chapter 11 plan must provide a dissenting class of unsecured claims with an opportunity to seek postpetition interest based on equitable considerations.  In this post, we discuss the last component of the court’s ruling: that the failure of a chapter 11 to provide postpetition interest on an unsecured claim at the contract rate (rather than the Federal Judgment Rate) does not render that claim impaired under the plan. 
Statutory Impairment vs. Plan Impairment
The EFH debtors’ plan deemed unsecured creditors’ claims against debtor EFIH to be unimpaired under section 1124(1) of the Bankruptcy Code based on the following treatment:

each holder of general unsecured claims against the EFIH Debtors, which includes the PIK Noteholders, will receive “up to the Allowed amount of its Claim, payment in full in Cash or other treatment rendering such Claim unimpaired.”  The plan further provides that Allowed Claims will include accrued principal, fees and interest due as of the petition date plus “accrued postpetition interest at the Federal Judgment Rate.”

The indenture trustee for the PIK Noteholders contended that, among other things, the PIK Noteholders were not unimpaired because they were receiving postpetition interest only at the Federal Judgment Rate rather than the contract rate specified in their indenture.  Specifically, the trustee argued that section 1124(1) of the Bankruptcy Code defines “unimpaired” as “leav[ing] unaltered the legal, equitable, and contractual rights” of a claim, and the EFH debtors’ plan expressly altered the PIK Noteholders’ contractual rights.
The court rejected this argument, following well-established Third Circuit precedent.  Citing In re PPI Enterprises (U.S.), Inc., Judge Sontchi reasoned that the PIK Noteholders’ claims had been impaired not by the EFH debtors’ chapter 11 plan but by the operation of section 502(b)(2) of the Bankruptcy Code.  Section 502(b)(2) provides that a claim in a bankruptcy case is generally not allowable “to the extent that such claim is for unmatured interest.”  As a result, the PIK Noteholders had no “legal . . . rights” to postpetition interest at their contract rate and were unimpaired under section 1124(1).
The court’s reasoning is based on the distinction between “plan impairment” and “statutory impairment.”  In cases of statutory impairment, a claim may be unimpaired under a plan notwithstanding that the claimant’s rights are limited by another provision of the Bankruptcy Code.  For example, nonresidential real property lease rejection damages are generally capped at one year’s rent pursuant to section 502(b)(6) of the Bankruptcy Code.  If a plan provides that such a claim based on a rejected real property lease is capped, notwithstanding that such a claim would not be capped under applicable non-bankruptcy law, that claim is nevertheless properly considered unimpaired under the plan.  In EFH, the concept of statutory impairment was applied in the context of postpetition interest, but the reasoning and result were no different.
The takeaway from the EFH court’s analysis is that being “unimpaired” under a plan does not mean that a claim is treated the same as it would have been treated outside of bankruptcy.  A claim may not be entitled to postpetition interest at its full contract rate, yet the holder of that claim could nevertheless be deemed to accept the plan under section 1126(f) of the Bankruptcy Code and denied a right to vote on the plan.  Yet, as previously discussed, the court held that holders of unimpaired claims are entitled to an opportunity to seek postpetition interest on equitable grounds.  Moreover, holders of such claims may have other provisions of the Bankruptcy Code that protect their rights to postpetition interest, such as (in solvent debtor cases) the best interests test.
Conclusion
Although creditors’ postpetition interest entitlements remain the subject of continued debate despite over 100 years of United States jurisprudence on the subject, Judge Sontchi’s decision, as discussed in this series on the Weil Bankruptcy Blog, provides additional, helpful guidance on this thorny area of bankruptcy law.