STATEMENT OF THE AMERICAN BANKRUPTCY INSTITUTE
NATIONAL BANKRUPTCY REVIEW COMMISSION
JUNE 20, 1996
Good morning, members of the Commission. My name is Robert M. Zinman and I am
the President of the American Bankruptcy Institute (ABI). As you know, the ABI
is the nation's largest multi-disciplinary organization devoted to research and
education on issues related to insolvency, with over 5,200 members. In
addition to my current role at ABI, I teach bankruptcy and creditor's rights at
St. John's University School of Law and am Senior Counsellor at Thacher,
Proffitt & Wood in New York City.
With me today are: Deborah D. Williamson, ABI's Vice President for
Publications and a partner at Cox & Smith, Incorporated in San Antonio;
Richard M. Meth, another member of the ABI Board of Directors and a partner at
Friedman Siegelbaum in Roseland, New Jersey; and the Hon. Ralph H. Kelley, a
former member of the ABI Board, who has served as a bankruptcy judge in the
Eastern District of Tennessee since 1969.
On behalf of our 60 member Board of Directors, we are honored to appear before
you this morning. As we said to you last fall in New Orleans, we are pleased
to assist in your thoughtful and important work. The ABI continues to strongly
support the Commission concept. We applaud the most recent efforts of Chairman
Williamson and the Commission to provide focus and direction to the
Commission's sizeable task.
As you know, the ABI is not a lobby group and, as such, does not generally
take advocacy positions on matters of substantive bankruptcy policy. We carry
no brief for any particular constituency, but rather are committed to the
simple notion that a modern commercial society must have a method for dealing
with financial failure, and that whatever mechanism we select ought to at least
be fair, efficient and effective. To extent that we appear to take positions
today on any particular issue, we will be giving you our best judgement as
individuals, rather than official ABI positions.
THE ABI BANKRUPTCY REFORM STUDY PROJECT
For more than a year, ABI has been engaged in a series of analytical
and survey projects -- captured under the name of the ABI Bankruptcy Reform
Study Project -- designed to help frame the issues most in need of attention by
this Commission. Before turning to my colleagues for their presentations, I
would like to provide you with a brief update of these projects, two of which
are completed. Mr. Meth will describe the third project, a comprehensive
survey of our entire membership on current bankruptcy issues.
The National Symposia Series
The first project the nine-part series of national symposia held around the
country on key bankruptcy issues. The series covered the following issues and
* Defining Success in Business Bankruptcy
* Should the Automatic Stay Be Abolished?
* The Biased Business of Venue Shopping
* Professional Compensation - Does Bankruptcy Cost Too Much?
* Administrative Oversight: Who Should Guard the Hen House?
* Exclusivity and DIP Management: Too Much Debtor Control?
* Labor Unions and Bankruptcy: Too Much Leverage?
* How Consensual Workouts Are Shaped By Business Bankruptcy
* The Impact of Bankruptcy on Free Market Competition
The coordinator of the symposia series is Jack Butler of Skadden, Arps, Slate,
Meagher & Flom in Chicago. Much like the roundtable approach favored by
this Commission, each symposium featured leading practitioners, judges and
academics in a roundtable discussion. The debates were lively, as we
intentionally chose people we knew would be in substantive disagreement. Each
symposium was a multi-hour program and all of the participants submitted
detailed papers in advance, defending their respective positions. These papers
were bound and published. All of the materials, including the transcripts of
the debates in the series, have been submitted to the Commission. Appended to
our statement is an Executive Summary of the nine symposia programs. (Exhibit
The American Bankruptcy Institute Law Review
Also completed are two issues of the American Bankruptcy Institute Law
Review devoted to the Bankruptcy Reform Study Project. As one who also
serves as Chairman of the Advisory Board of the Law Review, I am proud
of the quality of the topical analyses contained in these volumes, written by
some of our leading judges, academics and practitioners. Topics covered
include: employee interests in bankruptcy; the appropriate cramdown interest
rate; product liability, mass tort and environmental obligations in bankruptcy,
and bankruptcy's clash with tax policy.
Two articles are of special note in that they report on empirical work
initiated in the Central District of California, the single largest district
for bankruptcy filings. Judge Samuel L. Bufford analyzes the data on the
effect of aggressive judicial case management techniques, finding that even
modest case management can squeeze a substantial amount of delay out of Chapter
11 cases. Judge Lisa Hill Fenning studied 500 Chapter 11 cases on her docket
and found a striking similarity among a large proportion of her docket:
similarities of size, predominance of real estate related issues, chances for
confirmation and length of time to termination. This consistency suggests that
roughly 80 percent of Chapter 11 debtors need a simplified, standardized "off
the rack" Chapter 11 process, rather than a custom-made "designer" Chapter 11
As with the symposia, attached to our statement is an Executive Summary of the
articles contained in these issues of the Law Review. (Exhibit "B")
The ABI Membership Survey
Coming this summer is the third major component of the Bankruptcy Reform Study
Project, a comprehensive survey of all 5,200 ABI members, aimed at identifying
current problems and potential solutions facing the Commission. The survey is
unique; we are aware of no other organization attempting to survey a broad
cross-section of bankruptcy professionals.
The survey is designed to solicit views on a variety of bankruptcy policy
issues, such as the causes of business and consumer bankruptcies, what the
objectives of bankruptcy should be, and whether the scope of the automatic stay
or exclusivity period should be limited. Members' impressions of various hot
issues in consumer and business bankruptcy will be covered, as well as claims
rules, preferences, exemptions, dischargeability, employment rules for
professionals, jurisdictional and administrative issues, and perceptions of
abuses in the system. Attached to this testimony is a draft copy of the survey
questions. (Exhibit "C")
A team of ABI members, led by Richard M. Meth, Esq., have helped design the
survey, with the help of social science professionals at St. John's University.
We expect that the survey will take most people about 30 minutes to complete.
Responses will be analyzed and cross tabbed by researchers at St. John's and
the results will be released in time for the ABI's Winter Leadership
Conference, December 5-7, in Rancho Mirage, California.
Of course, we plan to share the results with this Commission. The findings
may well support the judgements the Commission has made with respect to the
issues in need of reform or otherwise assist the Commission in the writing of
your final report.
OTHER ANALYTICAL ASSISTANCE
Many of ABI's over 20 standing committees have been at work preparing analyses
of interest to the Commission. In particular, our committees were directed by
Immediate Past President Robin E. Phelan, Esq. to identify areas where a
particular bankruptcy provision is subject to conflicting interpretation in
One area where there appears to be a great number of conflicts is consumer
bankruptcy. Today we are submitting for your review a set of short white
papers on a number of consumer topics, including valuation under
§506(a); the impact of serial and simultaneous filings; the conflict
between the claims allowance process and the binding effect of confirmation in
Chapter 13; mixed collateral under §1322(b)(2); who may be a debtor
under §109(g); and the appropriate rate of interest for secured
claims. (Exhibit "D")
Finally, we are submitting a series of papers which suggest specific reforms
from the perspectives of a variety of different players in the bankruptcy
system: secured creditors, unsecured creditors, consumer debtors, commercial
debtors, tax and accounting professionals, and bankruptcy judges, among others.
Departing from our usual practice, we asked each of these writers to become
advocates; to not simply identify problems, but to suggest solutions from their
perspective. This work product, titled "The Bankruptcy Review Commission's
Agenda", was first released at the 1995 ABI Annual Spring Meeting, and is also
included with our statement today. (Exhibit "E")
DISCUSSION OF QUESTIONS RAISED IN THE COMMISSION'S MAY 12, 1996 "ISSUE
We have reviewed the draft summary of eight discrete topical areas, prepared
by the Commission's reporter, Prof. Elizabeth Warren. We have asked a number
of ABI leaders to comment directly on the questions raised by Prof. Warren's
paper.Philadelphia); Hon. John K. Pearson
(U.S. Bankruptcy Court; Wichita, Kans); Richard M. Meth (Friedman Siegelbaum;
Roseland, N.J.); and Mary Jo Heston (Lane Powell Spears Lubersky; Seattle).
What follows is a summary of the responses in each of the topic areas:
Improving Jurisdiction and Procedure
It is the opinion of most experienced bankruptcy practitioners that appeals to
the U.S. District Court are not only time consuming and expensive, but because
the appeal is conducted by another trial judge, albeit an Article III district
judge, the resulting appeal lacks precedential value and is frequently not
afforded the degree of analytical review that it receives by an appellate
panel. The historical background behind the present appellate structure to the
U.S. District Court is largely based on outdated reasons that were valid only
during the period of the Bankruptcy Act.
With respect to the Article I/Article III issue, the most significant
recommendation that can be made by the Review Commission should be directed to
the existing problems arising out of an Article I court system. There are many
unanswered questions and unresolved issues concerning the exercise of
jurisdiction that can only be resolved by the restructuring of the court as an
Article III court. Such restructuring need not be disruptive and a transition
period could eliminate many of the existing concerns that bankruptcy judges
presently voice. Should bankruptcy judges remain as Article I judges, the
exercise of greater judicial powers will only add to the already existing
jurisdictional problems that exist with respect to such matters as contempt,
jury trials, and related issues.
With respect to the questions surrounding the withdrawal of the district
court's reference to the bankruptcy court, as long as the bankruptcy court
remains as an Article I court, the vesting of jurisdiction initially in the
U.S. District Court would seemingly mandate some form of reference system. On
the matter of mandatory abstention, if the bankruptcy power is to be exercised
in such a way as to deal with the often comprehensive and complex issues that
arise in Chapter 11 cases, abstention should be discretionary and not
The Article I/Article III choice also has implications for such related
questions as personal injury jurisdiction, jury trials and contempt powers. To
the extent that the bankruptcy court is restructured as an Article III court,
there would appear to be no rational basis for excluding personal injury claims
from the court's jurisdiction. Similarly, because of constitutional concerns,
Article I bankruptcy courts should only be permitted to conduct jury trials
with the consent of the parties, and should exercise contempt powers only as
strictly circumscribed with review by the district court.
Finally, there should be some additional restrictions place on venue options,
because of the perceived abuse resulting from forum shopping. Ultimately, the
exercise of more discretion by the bankruptcy court would permit the proper
transfer of cases when needed.
To summarize, the development of bankruptcy law is becoming more significant
in both the commercial and consumer areas because of the changing and complex
nature of evolving economic and business structures. These developments,
together with the many unanswered questions discussed above, mandate that the
court system be reconstituted as an Article III court. A court system that
deals with significant economic issues, as well as its impact on individual
consumer rights and duties, deserves the full array of protections afforded
only by an Article III court.
What is the goal of consumer bankruptcy?
To goal should be to provide rehabilitation to the honest but
overextended debtor. The rehabilitation may occur under chapter 7, straight
bankruptcy, or chapter 13, adjustment of debts of an individual with regular
Should audits of debtor's financial backgrounds become a part of the
consumer bankruptcy system?
It would be a monumental and expensive task to audit 1,600,000 husbands
and wives who will file bankruptcy cases this year. Most debtors are insolvent
and have little property, but every debtor is required to attend a meeting of
creditors. The debtors may be questioned by the trustee and interested parties.
The answers given by the debtors, along with their sworn schedules, should
indicate whether or not the trustee should seek an audit.
Is repeat filing a significant problem? How can it be controlled?
While there are repeat filings, in most jurisdictions it is not a
significant problem. One of the ABI Consumer Bankruptcy Committee papers
addresses "The Effect and Impact of Successive or Serial Bankruptcy Filings."
While there are case citations from all circuits, the cases are relatively few
and seem to be concentrated in the first circuit.
As to how repeat filings can be controlled, Congress amended the Bankruptcy
Code with Section 109(g) which provides that an individual may not be a debtor
is during the preceding 180 days if (1) a case was dismissed by the court for
failure of the debtor to abide by orders of the court, or to appear before the
court in proper prosecution of the case; or (2) the debtor requested and
obtained the voluntary dismissal of the case following the filing of a request
for relief from the automatic stay provided by section 362 of this title. This
is a reasonable attempt by Congress to control repeat filings.
Should the bankruptcy system explicitly permit or prohibit pre-bankruptcy
planning in consumer cases?
As a practical matter it would be difficult to "prohibit pre-bankruptcy
planning." There is little need for pre-bankruptcy planning in most consumer
cases because the debtors do not have any property which is available for
creditors. They are truly insolvent. In most cases creditors and a good
trustee can set aside pre-bankruptcy transfers. It is problematic whether
additional legislation could cure this problem.
Does section 707(b) of the Bankruptcy Code in its current form serve a
Most people believe this section is awkwardly written, but on a few
occasions it has been used in some jurisdictions to dismiss a bankruptcy case
where there was "substantial abuse". It has been of little use in the regions,
such as the southeast, where there are so many chapter 13 cases.
What are the consequences to debtors and creditors of decreasing the scope
of the bankruptcy discharge? Should it be further constrained? Should it be
restored to its original scope?
Adjusting the scope of the bankruptcy discharge is essentially a
political question. Often special interest groups have secured amendments to
exclude their debts from discharge. Decreasing the scope of a discharge in a
chapter 7 is somewhat different from decreasing the scope of a discharge in a
chapter 13. In 95% of chapter 7 cases there is no dividend to creditors and if
there is a discharge, the creditors receive nothing. In chapter 13, the
discharge is granted only after all payments have been made under the plan.
It might be useful to "increase the scope" of the bankruptcy discharge in
chapter 13 because this may be the only hope of rehabilitation for the debtor
and the only hope of any payment to the creditor. Confirmation would require
good faith and substantial payment. Substantial payment would mean simply as
much as the debtor could afford to pay for a period of up to five years.
Should the bankruptcy system permit in forma pauperis filing of bankruptcy
As you know there is an experimental program in several test districts
at this time. Filings have not been substantial under the pilot program. Unless
there is a very good legal aid program in a community where there are in
forma pauperis filings, it means that each bankruptcy petition will be
filed pro se. The debtor's lack of understanding may lead to many
problems, questions, and corrections. It will impose extra work on the clerks'
offices and extra work on the judges. It may even result in injustice. When a
debtor files bankruptcy, there is almost always a need for a lawyer.
Should property exemptions in bankruptcy be uniform in all fifty states? If
not, should the federal exemptions provide a floor to state exemptions? Should
the federal exemptions provide a ceiling on state exemptions?
If we have uniform laws of bankruptcy in all 50 states, it would appear
to be equitable to have uniform federal exemptions in all 50 states. This,
however, is a difficult political issue.
Should consumer bankruptcy be organized around a Chapter 7/Chapter 13 split?
If so, should the differences between the chapters be expanded or contracted?
Should individuals be steered into one chapter or the other?
Consumers need two separate and distinct chapters. Chapter 7 is meant
for debtors with catastrophic debt, but no income stream to service the debt.
In such cases there would be no probability of a debtor having a plan which
would pay a substantial amount of the debt. Only a chapter 7 for an honest
debtor would allow relief in this situation.
On the other hand, chapter 13 is meant for individuals with disposable income
who may be able to pay a reasonable dividend to creditors. In the most
successful chapter 13 jurisdictions, most of the plans which we confirm not
only pay secured creditors, but propose payments of 100% to unsecured
creditors. Millions of dollars are paid to creditors across the United States.
There is real rehabilitation where families are held together, homes are not
foreclosed, automobiles are not repossessed, and wages are not garnisheed. In
many jurisdictions chapter 13 is not only good for debtors, it is good for
Should more be done to provide consumer counseling alternatives to
Consumer counseling is a good thing, but in many sections of the United
States it simply is not available to many debtors. Some chapter 13 trustees do
a good job of consumer counseling after the debtor is in a chapter 13. This
practice needs to be specifically authorized by statute or it may be
discontinued by the United States Trustee program.
Should consumer education become a part of the bankruptcy process? Who
should perform this function?
Again, consumer education would be a good thing. As to who should
perform the function for both chapter 7 and chapter 13 debtors, it would seem
that the Office of the United States Trustee, a neutral government agency, is
best situated to provide such consumer education. In particular, if the United
States Trustee system iss going to be funded in part by fees from from each
chapter 13 case totaling millions of dollars each year, perhaps a portion of
the fund could be used to provide consumer counseling.
Should small businesses ber permitted to reorganize in Chapter 13? Or
should business bankruptcies be handled in other chapters?
There are a number of advantages to both debtors and creditors by allowing
small businesses to use chapter 13. Chapter 11, in contrast, is more costly,
cumbersome and time consuming. However, there would need to be several further
changes made to chapter 13 to make it a fully effective alternative. First,
the eligibility limits would have to be broadened to include corporations and
partnerships and the debt limit should be increased to $1.5 million, the same
amount used for family farmers in chapter 12. Second, payment for non-consumer
secured claims should include periods longer than five years in order to
adequately deal with commercial real estate and equipment loans, much as
section 1229(b)(9) does in chapter 12. Third, section 1304, which defines
"debtor engaged in business" should be expanded to include corporations and
partnerships; for those debtors, the U.S. Trustee should be given the power, if
it is deemed appropriate, to appoint a creditors committee in the manner
provided under section 1102 and having the powers under section 1103. Finally,
section 1321, which provides for filing of plans, should be amended to require
the debtor engaged in business to file its plan within 60 days of filing the
petition, which period may be extended an additional 60 days upon substantial
Is retail or wholesale valuation more appropriate for determining a
creditor's allowed secured claim for property that a debtor wants to keep in a
An exhaustive look into this question is provided in one of the ABI
Consumer Bankruptcy Committee white papers. Courts have answered the question
in many ways and it continues to be a case by case decision. It would be very
difficult to find a legislative solution to the valuation problem.
Chapter 11: Uses and Consequences
What role does Chapter 11 serve in the American economy? How do parties use
the system to reorder business relationships? Can the benefits of job
preservation and preservation of going-concern value be strengthened?
The primary role of Chapter 11 is to preserve going concern value for
the benefit of the interested parties and to provide a forum for the orderly
disposition of a business entity as a going concern. Normally parties utilize
Chapter 11 to extend the payment of obligations, convert debt into equity or to
compromise debt. However, increasingly Chapter 11 has been utilized to extort
participation for former equity or junior interests that have no continuing
economic stake in the debtor. Jobs can only be preserved if there is a viable
economic entity that is capable of preserving. In addition, efficiency will
often dictate that jobs be eliminated to preserve going concern value.
Does the Bankruptcy Code adequately protect employee benefits?
Employee benefits are, in general, adequately protected by the
bankruptcy system but the position of those benefits should be simplified and
clarified. The PBGC should not get a springing partial lien when the minimum
funding payments are not made. Either ERISA should give the PBGC a lien on
specific categories of assets or Congress should decide that the minimum
funding obligations should be unsecured. It would be better to limit employers
from withdrawing excess funding from plan assets when times are good so that
funds will exist when times are bad.
Should old equity be permitted to paticipate in the reorganization of a
business if it contributes new value? How should such participation be
Old equity should be allowed to bid on the equity of the reorganized
debtor in connection with a plan of reorganization but exclusivity should be
eliminated at that point in time and the other interests should also be allowed
to bid on the equity by filing their own plans. The exception should be if the
old equity files a 100% payment plan. In essence, when a debtor files a Chapter
11 case it should be up for bid as a going concern unless the equity proposes a
What should be the rules for including claims together in the same class?
How much freedom should the plan proponents have to make classification
Similar claims should be classified together unless there is a real
good reason for separate classification. Gerrymandering should not be
Small Businesses and Partnerships: A Special Case?
Is a partnership agreement an executory contract?
While this issue has generated some debate, as the First Circuit noted
in the Leroux case, virtually every court to consider the question has
found a partnership agreement to be an executory contract, thus triggering the
general applicability of section 365 of the Bankruptcy Code.
Does the trustee exercise the rights of partners who are debtors or are
those rights reserved to the debtor?
A bankruptcy trustee, in a chapter 7 or 11 case, will succeed to the
economic rights of the debtor-general partner, i.e. the right to surplus,
profits or distributions and the right to proceeds of the sale of the
partnership interests held by the debtor. A growing number of cases suggest
that a chapter 11 trustee may also, in an appropriate case, succeed to the
rights of the debtor-general partner to manage the partnership, and that a
partnership agreement is capable of assumption and assignment by a chapter 11
trustee where the nondebtor partners will not be prejudiced by assumption and
assignment and adequate assurance of future performance by the assignee is
clearly established. The courts are more split on this point, however, and the
case law is still developing. This trend probably reflects an increasing
realization that--at least in mature limited partnerships with real estate or
like investments--the nondebtor partners are financial investors, and, in some
cases, management is fungible.
Are clauses automatically converting a general partner's interest to a
limited partnership enforceable in bankruptcy? Clauses compelling the sale of
the bankrupt partner's interest?
Most courts have found such "automatic conversion" clauses, and similar
clauses in partnership agreements, to be unenforceable "ipso facto" clauses. An
excellent discussion of the applicable statutory construction and bankruptcy
policy issues relevant to this issue is found in the First Circuit's
Leroux decision, authored by Circuit Judge Cyr, a former bankruptcy
judge. Some courts have upheld the compelled sale of the debtor's partnership
interest, particularly where the case was under chapter 7, provided the sale
mechanism was designed to generate fair market value for the sale of the
interest. (These same courts are usually in the minority which hold that a
general partner's filing dissolves a partnership and/or that a partnership
agreement is not capable of assumption). A growing number of decisions hold
that compelled sale provisions are unenforceable in chapter 7 and 11 cases,
even if designed to sell the interest at market value, such courts stating that
the debtor-partner's bankruptcy estate--and its creditors--are entitled to any
premium upon the sale of the interest.
Under what circumstances may the bankruptcy court stay creditor actions
against non-debtor partners for their liability for partnership debts? Are
there differences during the pendency of the case and after a plan is confirmed
and the case is closed?
The majority of cases hold that the automatic stay does not protect the
nondebtor partners when the partnership files for relief under the Bankruptcy
Code. However, courts will issue injunctions where necessary to protect the
partnership's--and the partnership bankruptcy estate's--right to contribution
from general partners as necessary to satisfy partnership debts. In chapter 7,
this right is clearly derived from section 723 of the Bankruptcy Code, which
provides the trustee with a right to pursue partners, to the extent they are
liable under state law, for any deficiency amount to the extent partnership
assets are insufficient to satisfy claims against the partnership. In a chapter
11 case, where section 723 does not apply, the partnership's--and the trustee's
or debtor-in-possession's--right to seek contribution from partners is derived
from state law. The bankruptcy courts have issued temporary injunctions under
section 105 preventing partnership creditors from pursuing general partners so
that the trustee's rights would be preserved or a plan negotiated whereby such
partners make net worth contributions to fund the partnership's plan of
reorganization. Such injunctions are usually conditioned upon an injunction
directed to partners preventing disposition of assets. Such injunctions for the
benefit of and against partners were a central feature of the large
professional partnership cases. Those cases also featured a permanent
injunction protecting partners from claims of partnership creditors, as part of
the plan of reorganization, provided such partners contributed a predetermined
amount to the funding of the plan. Partners who did not contribute, or who
default on contribution promises, lose the benefit of the injunction. Proposed
statutory provisions clarifying the right of contribution in a chapter 11 case,
and providing a clear statutory basis for the temporary and plan injunctions
noted above, are central features of the proposed amendments of the ABA's Ad
Hoc Committee on Partnerships in Bankruptcy, and these particular provisions
are supported by the ABI's Subcommittee on Partner and Partnership
Should the bankruptcy court have the power to prohibit general partners of
the bankruptcy partnership from transferring non-partnership assets during the
pendency of the case?
The bankruptcy courts do and should have the power to enjoin nondebtor
general partners from transferring their assets during the pendency of the
partnership's bankruptcy case. Such an injunction is a necessary quid pro quo
for the injunction protecting such partners. The affected partner should have
the ability to seek relief from such an injunction, as should such partner's
nonpartnership creditors. Provisions clarifying the court's power in this
respect in chapter 11 cases, and providing conditions and procedures for such a
stay and relief from such stay, are part of the ABA proposed amendments. The
proposed amendments do need to be clarified to allow both partner and partner
creditor requests for relief.
Should the bankruptcy court have the power to compel non-debtor general
partners to disclose information about their financial condition? Should this
information be sealed?
Rule 1007(g) of the Rules of Bankruptcy Procedure provides that the
court presiding over a partnership bankruptcy case "may order any general
partner to file a statement of personal assets and liabilities within such time
as the court may fix." The ABA proposals also provide a statutory disclosure
requirement for general partners when the partnership seeks bankruptcy relief.
Such disclosure is essential to the functioning of the partnership case, and
the court's power to order such disclosure should be preserved and
strengthened. Except in rare cases, for cause shown, such information should
not be sealed, since the information is relevant to many issues in the
liquidation or reorganization of the debtor partnership.
What rights should the Chapter 7 trustee have against general partners? What
rights should the Chapter 11 estate have against the partners?
The rights of the trustee currently contained in section 723 of the Code
should be equally available to chapter 7 and chapter 11 trustees, a result
which would accomplished if the ABA proposals on partnership bankruptcy, as
published in the April, 1996 draft, were adopted.
Should non-partnership creditors have priority over partnership creditors as
to non-partnership assets of general partners who are in bankruptcy? Not in
bankruptcy? As to partnerships in Chapter 7? Chapter 11?
Nonpartnership creditors and partnership creditors should have equal
priority claims to the assets of general partners; any return to the "jingle
rule" should be avoided. In partnership chapter 11 cases, however, such a
priority is often, in fact, the result of requiring the general partner to
contribute an amount equal to his or her net worth.
Should section 1111 be clarified to provide that conversion of non-recourse
debt to recourse debt does not create general partner liability on such
While there is no substantial authority that section 1111 creates
general partner liability on otherwise nonrecourse debt, the section should be
clarified to avoid any argument that such liability is created. One of the ABA
proposals would provide such clarification.
Should the Code authorize creation of committees of partners?
In large partnership cases, partner committees are helpful and the
court should have the power to authorize such committees. Appointment of a
committee should not be mandatory, and should be considered on a case-by-case
What is the status of new partners, former partners, special partners and
partners by estoppel?
For purposes of considering the applicability of the Bankruptcy Code to
them and the jurisdiction of the court over them, no distinctions should be
made among current, former, new or special partners, or partners by estoppel.
However, the liability of any general partner for partnership debts is a matter
of state law, and should remain so, and such state law may--and usually
does--make such distinctions in determining which type of partner is liable for
which debts of the partnership. The extent of the partner's liability for
partnership debts at state law determines whether, and to what extent, the
partner may be compelled to contribute to a deficiency under current section
723, and is a critical factor in determining the partner's required
contribution, if any, to the funding of a plan for the partnership.
Are any statutory amendments needed to deal with LLPs and limited liability
Modest statutory amendments may be advisable with respect to LLPs and
LLCs. The Bankruptcy Code should be clarified to ensure that an LLC is an
eligible debtor under the Code. Based on the limited current case law on the
bankruptcy of members of llcs, the same issues arise in such cases as are
present when a general partner seeks relief under the Bankruptcy Code, i.e.
does the filing dissolve the LLC, is the LLC operating agreement an executory
contract capable of assumption and/or assignment, are ipso facto clauses
Government As Creditor Or Debtor
Prof. Warren's memorandum asks what priority, if any, should the
claims of the PBGC have upon termination of an insured pension plan.
Currently, the PBGC asserts several types of claims in the bankruptcy
proceeding of a debtor that maintains a pension plan with insufficient assets
to satisfy all of its benefits promises: a claim for the total shortfall
(contingent on termination of the plan) (the "underfunding claim"), a claim for
any unpaid "minimum funding contributions" owed the plan under the requirements
of the Internal Revenue Code (the "contributions claim"), and a claim for any
unpaid insurance premiums due the PBGC (the "premium claim"). The PBGC asserts
a variety of priorities for these claims.
Underfunding claim: In the usual case, where the pension plan
terminates after the bankruptcy petition is filed, PBGC contends that it is
entitled to first priority for at least a portion of the underfunding claim, in
the amount of the smaller of (a) the amount of the underfunding claim, or (b)
30 percent of the aggregate "net worth" (as defined in ERISA) of the debtor and
all members of its "controlled group" (as defined in ERISA and the Internal
Revenue Code). The balance of the claim in asserted as a general unsecured
Contribution claim: If an employer fails to make required pension
contributions of $1 million or more, the Internal Revenue Code ("IRC") states
that a lien arises in favor of the pension plan, enforceable by the PBGC. The
IRC also provides that the amount with respect to which this lien is imposed
is, in bankruptcy, "to be treated as taxes due and owing the United States".
In the typical case, an employer will file its bankruptcy petition before the
lien is triggered; based on the IRC language, the PBGC then contends that is
entitled to first priority for any contribution claims as to which the lien
would have been imposed if the employer were not in bankruptcy. The PBGC
further contends that any contribution claim attributable to the post-petition
period is an administrative expense, entitled to first priority; that any
contribution claim attributable to the period within 180 days prior to the
bankruptcy filing is entitled to fourth priority; and that all other
contribution claims are general unsecured claims.
Premium claim: The PBGC contends that a premium claim attributable to
a pension plan year beginning after the petition is filed is an administrative
expense, i.e., an ordinary and necessary expense of the estate, entitled to
first priority. For premium claims attributable to plan years beginning prior
to the filing of the petition, the agency asserts general unsecured status.
Because the PBGC's claims are often among the largest in a bankruptcy, they
lead to litigation in numerous cases. And this litigation increases both the
duration and expense of many bankruptcies. Repeatedly over the past few years,
the courts have rejected priority for any of these claims. However, because
the PBGC has colorable arguments for the claims it makes (many of them are
based on interpretations of statutory language that are not unreasonable), the
PBGC continues to assert the same priorities in every case, notwithstanding the
many adverse court decisions.
We recommend that the Bankruptcy Review Commission clarify the existing state
of the law and make clear that the claims of the PBGC are not entitled to
priority. Since PBGC already has a claim for all contributions or benefit
claims, according it a priority will be at the expense of the unsecured
creditors and not the shareholders. Expansion of the priority to include plan
termination claims would result in the elimination of any distribution to
unsecured creditors in some cases and greatly impair any such distribution in
others. It is not at all evident why amounts due to the PBGC should be
accorded a priority over amounts due to, for example, other government agencies
(without such a priority), labor unions (under section 1113), or other
creditors. In fact, the PBGC has more opportunities before bankruptcy to
enforce obligations due to it, such as through its right to insist on obtaining
liens before providing funding waivers, than many other creditors. An
expansion of PBGC's priority would be at the expense of these other creditors.
This is, at bottom, a policy issue for the Commission and ultimately Congress
to decide but from the standpoint of increasing the chances of successful
reorganizations, an expansion of the priority would be ill-advised.
A similar issue arises with respect to PBGC's claim that, if a plan is
terminated post-petition, all obligations due under the plan are entitled to
administrative expense status. Virtually all courts that have addressed this
issue have rejected PBGC's claim to administrative expense status on the ground
that, under generally applicable law, only claims related to post-petition
services are entitled to administrative expense status. Under those cases,
contributions due with respect to post-petition service would be entitled to
administrative expense status, but contributions respecting pre-petition
service would not be, even if the plan is terminated post-petition. This issue
should be clarified by the Commission to endorse the position taken by these
As a result of the 1994 amendments to the Bankruptcy Code, the PBGC has been
entitled to representation on creditors' committees. There is some reason for
concern that PBGC represents such a special interest that it cannot represent
the interests of unsecured creditors generally. If PBGC is accorded priority
status, it would appear inappropriate for it to serve as a representative of
the unsecured creditors. If it does not have such status, then its service on
creditors' committees would not appear to be inappropriate in cases where it
holds a substantial unsecured claim.
There are several factors that should be considered in developing bankruptcy
tax laws. As a general rule taxes should not be the driving force that would
cause companies to file one petition over another. Thus, bankruptcy laws should
as much as possible be designed to preclude debtors from chapter shopping for
the greatest tax advantage. For example, under current law some individuals
might find it an advantage to file a chapter 13 petition over chapter 11 due to
the advantage offered by the discharge of taxes.
Tax laws should not be a major hindrance to the bankruptcy process (providing
a way for the debtor to reorganize or giving the debtor the right to a fresh
start). As much as possible, without creating a situation where debtors file
only because of the tax advantages, the tax laws should facilitate the
restructuring process. Most importantly, tax laws in a bankruptcy case should
not be more burdensome on the debtor than is the case in a nonbankruptcy
The extent to which the tax law is used to facilitate a successful
reorganization, or fresh start, should not be so great as to create a situation
where healthy companies find it an advantage to file a bankruptcy petition or
unhealthy companies find it a real advantage to file a bankruptcy petition for
the tax benefits rather than develop an out of court workout. Thus, any special
tax considerations that are given to companies in a bankruptcy petition,
should, to the extent possible, be available in an out-of-court workout.
Taxing authorities may need and deserve special consideration to preserve the
rights provided them through nonbankruptcy laws; however, special
considerations beyond these rights infringe on the rights of both secured and
unsecured creditors and on the ability for reorganization or fresh start and as
a result should be minimized.
Should traceable payments of trust fund taxes to segregated funds be
immunized from voidable preference recapture?
The Supreme Court in Begier v. IRS, 495 U.S. 53 (1990), finding
tax collected as a trust not to property of the debtor, placed the taxing
authorities in a position that is superior to that which they could obtain in a
nonbankruptcy environment. While in general taxing authorities have not used
this power to the extent that it is available, it appears that it is not good
law and should be modified. This law has the potential of placing the taxing
authority above the rights of a secured lender. It allows the IRS to take
unsecured assets, while staying the actions of secured lenders. See
also, McQueen & Williams, Tax Aspects of Bankruptcy Law and
Practice, Chapter 14, §14.08 (McGraw Hill 1994).
This provision can have a major impact on business that are operating in
bankruptcy. Companies often use some of the float created by not being required
to remit all trust fund taxes at the time they are collected. However, once a
company filed bankruptcy, any taxing authority can have an immediate impact on
the ability of the debtor to reorganize by requiring these companies to make
immediate payments of their trust fund taxes. Little recourse is available for
the debtor since the property sought by the taxing authorities is not property
of the estate. Under the current law, bankruptcy creates a situation that is
considerably different in bankruptcy than outside of bankruptcy. Thus giving
the taxing authorities an advantage in bankruptcy that does not exist in
nonbankruptcy situations. Furthermore, the Service has other remedies that are
available such as these taxes have a priority over other unsecured creditors,
have no time limit for priority, and can be collected from responsible persons.
Thus, it appears that the Service obtained from Begier a right that is
not needed from effective collection and could be a burden to the estate at a
time when cash is critical to effective reorganization.
Two possible changes that might eliminate or minimize the problems described
include: (i) modify section 541 to provide that trust fund taxes are property
of the estate. Under this change the trustee or debtor in possession would be
required to provide for the taxes in liquidation or reorganization as a
priority tax item. This requires the taxing authorities to use the general tax
provisions for their collection efforts; or (ii) modify section 541 to provide
that trust fund taxes are property of the estate unless such taxes have been
paid. This approach would preclude the trustee or debtor-in-possession for
recovering previous payments, but it would prohibit any immediate efforts to
collect the trust fund taxes. This solution will encourage the taxing
authorities to preserve debtors to made payments as they are due, especially
from troubled business that might file. It also protects the responsible person
by not allowing the trustee or debtor-in-possession recover taxes as a
preference for which the officer may be personally liable.
Should the debtor be permitted to allocate payments under a plan?
The purpose of Chapter 11 is to provide a basis for the debtor to
reorganize. Whether it is involuntary or voluntary is irrelevant. In an out of
court workout, the debtor is allowed to allocate such payments, and there
appears no justification to handle the situation any differently in a Chapter
11 filing. Allocation is a right that is given to the taxpayer and as a result
there is no reason to why it should be different in a reorganization case.
There is likewise no reason to burden the debtor with the obligation to show
that allocation is necessary for the plan to work. This is an example of a
situation where we have made bankruptcy more burdensome. Accordingly, the
I.R.C. should be changed to provide that payments under a plan (Chapter 11,
Chapter 12 or Chapter 13) are voluntary and thus give the debtor the authority
to allocate them. The change could possibly be made through section 505(a) of
the Bankruptcy Code rather than through the I.R.C.
Should the list of the anti-injunction provisions of the I.R.C. be amended
to incorporate Bankruptcy Code section 505(a)?
The anti-injunction provision should be modified to recognize the
preemptive jurisdiction of the bankruptcy court over tax matters. This would
facilitate the process of resolving tax issues along with other nontax issues.
It does not deny the right for the IRS to be heard. See, 11 U.S.C.
§§ 505, 362(a)(8); see also McQueen & Williams,
Id. at §§ 3.20-3.22.
Should section 505(a) be amended to empower the bankruptcy court to enjoin
the IRS from collecting trust fund taxes from responsible persons if this
injunction would aid rehabilitation of the debtor?
While it may seem inappropriate, the Service has in the past been very
aggressive in collecting the I.R.C. section 6672 penalty from responsible
persons even though the amounts are still collectible from the employer. The
Service has generally claimed that it has no obligation to pursue the employer
before imposing the 100 percent penalty. Sowell ("A Road Map for Employment Tax
Audit", 71 Tax Notes 1091 at 1098,(1966)) notes that the Service has indicated
that it generally will not impose the 100 percent penalty on responsible
persons where the Service has entered into an installment agreement or
bankruptcy payment plan with the company as long as the company adheres to the
It would appear that giving the bankruptcy court the power to enjoin the IRS
from collecting trust fund taxes if this injunction would aid rehabilitation is
not unreasonable and should be in line with the policy set forth by the IRS. On
the other hand if there is limited prospect for a successful reorganization,
the IRS would not be denied its efforts to collect the tax. See,
McQueen & Williams, Id. at §§ 10.18-10.19.
Mass Torts, Future Claims and Bankruptcy
The bankruptcy system is the most appropriate forum to process mass tort
obligations. Historically, it has been equipped to liquidate claims of all
sorts and provide equal distribution to creditors of equal priority.
Tort claims are merely a specie of claims. Known tort claims, like any
unliquidated unsecured claim, are capable of being liquidated through
traditional litigation or by an alternative claims resolution process. This
presents no particularly unique problem (although tort claims often have
certain insurance implications). Problems arise, however, because of the
uncertainty regarding whether, and how, so-called "future claims" can be dealt
with in bankruptcy.
Future claims are incapable of being presently liquidated because (i) the
claimant is presently unknown; (ii) the claimant may not be known for years (as
with diseases with long latency periods like asbestosis); and (iii) there may
be problems with establishing causation when manifestation is so far removed
from the underlying actions and/or events which gave rise to the injurious
conditions. Future claims arising from products placed into commerce
pre-petition (e.g. post-confirmation crashes of airplanes manufacturer
pre-petition) present another aspect of the problem. In order to preserve
"going concern value" for the benefit of all creditors, to provide certainty
that a reorganized business is not subject to successor liability, and for a
reorganized business to have access to capital and credit markets, future
claims must be capable of being dealt with conclusively and comprehensively in
the reorganization process. The solution lies in a comprehensive definition of
"claim" so that both present and future tort claims can be bound with certainty
in the reorganization process, not left to be dealt with afterward.
Future claims must definitely be dealt with in reorganizations. In
liquidations, however, they should only be dealt with if distributions can be
based on actuarial models which permit partial distributions to presently known
claimants, while preserving appropriate assets for fair distributions to future
claimants whose entitlement arise subsequently. In either reorganizations or
liquidations, future claimants' interests must be protected by a legal
representative in order to provide constitutionally-minimum due process to bind
them to the terms of the distribution scheme.
Tort claims should not be given priority over administrative or other
unsecured claims. This would make reorganization much more difficult, if not
impossible, considering the sheer magnitude of liability arising from most mass
torts. With respect to giving tort claims priority over secured claims, it
would probably be an unconstitutional taking and set off a firestorm of
controversy (rightly so) by the secured lending industry. If there is some
legitimate policy reason for treating tort claims more favorably than other
unsecured claims, one possible solution is to clarify the relationship between
tort claims and insurance proceeds. Some courts have suggested that tort claims
have some type of direct claim to insurance proceeds, in effect channelling the
insurance proceeds to particular tort claims covered by insurance.
Punitive damages should not be given priority over compensatory tort claims
and contract-based claims. The effect of giving punitive damages priority would
be to effectively skew distribution in favor of tort claimants. Besides, isn't
having to put a company through bankruptcy, as well as wiping out equity,
punishment enough to holders of those economic interests who should be
punished? Why punish other creditors too?
Future tort claims should not be able to "ride through" a bankruptcy
proceeding. If all tort claims, both present and future, cannot be conclusively
dealt with by the reorganization process, what's the point? This is a
prescription for "Chapter 22" as the next round of maturing future tort claims
will similarly overwhelm the newly "reorganized" debtor. How will any debtor
subject to future tort claims ever be able to demonstrate feasibility in the
face of the next tidal wave of tort liability? Besides, the cloud of
uncertainty from future tort claims will likely extinguish any possible
marketability of "going concern value" and foreclose the newly "reorganized"
debtor's access to credit and capital markets. Would you buy, or lend money to,
a company subject to a zillion dollars of future tort liability?
A sale free and clear of liens should be able to cut off future claims for
past tort liabilities; provided, however, that it is done "right."
See Fairchild Aircraft Corp. v. Campbell (In re Fairchild Aircraft
Corp.), 184 B.R. 910 (Bankr. W.D. Tex. 1995). If the point of a sale "free
and clear" is to maximize value for the benefit of creditors by unburdening the
assets of successor liability, then the process must encourage and facilitate
that result. Value cannot be maximized if the price being paid is discounted,
often heavily, for the uncertainty of unliquidated future tort liabilities.
To a certain extent, a specific "channeling injunction" to bring property into
a bankruptcy estate may be unnecessary if that property is already
"property of the estate" under 11 U.S.C. $541(a). However, to the extent that a
"channelling injunction" seeks to, in effect, create lien rights in specific
assets (e.g., insurance proceeds) for the benefit of specific classes of
otherwise unsecured creditors (e.g., tort claimants), this raises more
complex questions. Presumably, federal law can create such rights to protect
favored classes of creditors (e.g., the Perishable Agricultural
Commodities Act protects growers with the so-called "PACA lien"). However, this
may affect underlying state law contract rights among a debtor-insured, its
insurers and its tort claimants. It might also effectively create insurance
coverage for certain tort claims which are not otherwise covered. Moreover, in
situations where tort liabilities exceed policy limits, such a "channelling
injunction" may skew distribution in ways not foreseen or intended. These are
difficult issues and require much more study. Often, for smaller businesses
especially, insurance is effectively the only asset available for unsecured
tort claimants, because other assets are already subject to existing secured
claims. Clearly, insurance policies are property of the estate; however, the
proceeds thereof may not be. If proceeds of insurance policies cannot be made
subject to pro-rata distribution among all tort claimants, equality of
distribution among similarly situated creditors may not be possible.
Bankruptcy courts should have the discretion to defer to multi-district
litigation whenever progress in such proceedings can be utilized to facilitate
the reorganization process. In some respects, they may be parallel proceedings
to the extent that "global" settlements among the debtor, tort claimants and
other tortfeasor-defendants are reached. In cases such as Dow Corning,
where the multi-district litigation preceded the bankruptcy case, certain
"global" settlement structures could be preserved and incorporated into a
bankruptcy reorganization plan. Why duplicate effort, or "re-invent the wheel,"
if all, or a part of, a comprehensive settlement is already in place?
To date, Chapter 11 has proven to be the most effective method of ensuring
that aggressive creditors can not force liquidation and distribution of a
company's assets to the detriment of future claimants. We are not aware of any
other judicial or non-judicial means of effectively binding such aggressive
creditors, who are likely to be dissenters from any mass tort settlement. (Even
class action settlements have mandatory opt-out provisions. Isn't that what
killed the "global" breast implant settlement and pushed Dow Corning into
bankruptcy?) The ability to effectively reorganize, and bind future claims
while insulating "going concern value" from successor liability, appears to be
the best method to preserve the opportunity to presently capture future value
for the benefit of future claimants. Otherwise, the "pie" inevitably gets
smaller and the aggressive known tort claimants will eat it all, with no regard
for those future claimants yet to come.
Service to the Estate: Ethical and Economic Choices
The Global Economy: Preparing for Transnational Insolvencies
The ABI National Symposia Series
Defining Success in Business Bankruptcy
May 6, 1995
Defining success in business bankruptcy is an elusive proposition, defying
generalization or quantification. The process is complex and nonlinear, giving
rise to different perceptions of success based on the multiple goals of the
conflicting players in a case. To the extent it can be measured, success must
be defined based on the results achieved in the bankruptcy and related
proceedings, independent of the failure of the business which occurred prior to
the use of the bankruptcy process to attempt to fix it.
One measurement of success is the amount distributed to creditors through a
successful reorganization. When competing creditor interests are not satisfied
in full, as is typically the case, success for one party often comes at the
expense of another. Creditors frequently divide into competing camps depending
on whether they are secured or unsecured; whether it is in their interests to
quickly take the largest short-term cash distribution possible, or whether they
should work with the debtor in the hopes of building a future relationship, and
maximizing the recovery over the long run.
Debtors' views of success may depend on such factors as job preservation
(including the jobs of incumbent management), future returns to equity, tax
savings, or reducing liability exposure for the principals and the business,
among other considerations. Success for them may be based less on short-term
returns than on the long-term restructuring goals of returning a company to
While a confirmed plan of reorganization is one element of success, this is
not the norm. Yet the failure of a business to reorganize might not be deemed
a failure if the business is liquidated in time to maximize assets for
distribution. Conversely, even a confirmed plan may be viewed as less than
successful, if the costs of professional services are too high or attendant
delays too long. However, it is important to remember that business
bankruptcies in chapter 11 can also create a flexible framework to negotiate an
out of court restructuring that will preserve the business, without the
Adding to the factors to be considered are community needs, speed, hidden
costs such as delay, procedural fairness (in addition to and in contrast with
distributive, substantive fairness) and public policy concerns, including the
impact of bankruptcy on competitors of the business operating while in
Should the Automatic Stay Be Abolished
June 1, 1995
Traverse City, Michigan
The automatic stay has been an integral part of the bankruptcy system since
1973 and the Bankruptcy Code since 1978. Unique to bankruptcy, the device is
intended to promote both the debtor's fresh economic start and the fair and
equitable distribution of assets among creditors. Litigation over the scope of
the stay, its various exceptions, and its application to particular facts is
among the most common features of a bankruptcy case.
The breathing spell provided by the stay may assist the debtor's ability to
put its economic house back in order free from collection efforts, or provide
time to determine the fair market value of the estate in a liquidation. Since
1978, section 362 has been amended five times, each time chipping away at the
breadth of the stay. Recently, it has been proposed that single asset real
estate cases should to subject to a more limited stay period than in other
types of business bankruptcy cases.
Where the debtor does not have a reasonable likelihood of a successful
reorganization, the delays resulting from the stay disadvantage secured
creditors who lose cash flow, incur expenses and see the value of the
collateral decline. To critics, the stay becomes a sword rather than a shield
against creditor actions. Accordingly, some suggest a lesser scope for the
stay in liquidation cases rather than reorganizations, or proffer that some
conditions or limitations be placed on the debtor to prevent potential excess
harm to creditors, particularly secured creditors.
At the same time, there is widespread acknowledgement that to severely
restrict the effect of the stay would be to invite chaos at the outset of a
case, to the ultimate detriment of the estate. Indeed, even in liquidation
cases, the stay may actually add value that would not be available if the
business were to be immediately liquidated. Defenders of a muscular automatic
stay reason that secured creditors will receive their collateral back should
the reorganization fail and that any losses attendant to this delay are the
result of free market economic factors rather than the stay itself. They also
point to the stay's positive effect on facilitating time for the parties to
negotiate workouts outside of bankruptcy.
While there may be a consensus that a judge should (early in the case) find as
a threshold matter that there is a reasonable chance for an effective
reorganization, there is disagreement over how certain this "chance" should be.
In the final analysis, the problem may not be with the Code, but rather in an
abuse of discretion by the judge about whether the stay should continue or be
lifted in particular cases.
The Biased Business of Venue Shopping
July 21, 1995
Cape Cod, Massachusetts
The statute governing venue in bankruptcy cases offers a choice, to some
individual debtors, and to almost all corporate debtors, as to where the case
should be filed. Under existing law, a case is properly venued in a district
in which the debtor is domiciled or incorporated; has a residence; has its
principal place of business; where its principal assets are located; or where
there is a pending case concerning an affiliate. The debtor's choice of venue
often controls where millions of dollars will be administered and can determine
where important issues of commercial law will be decided.
Many assert that, particularly in larger Chapter 11 cases, the current rules
encourage forum shopping, (or, more insidiously, judge shopping) and hence
breed disrespect for a uniform bankruptcy law. An empirical study by LoPucki
& Whitford found extensive forum shopping in business cases. Venue
shopping is often driven by the debtor's perception that the outcome of a
particular issue (e.g. exclusivity, professional fees) or the entire case can
be manipulated. But debtors may have more neutral reasons for a flexible venue
rule, such as the caliber or speed of the judge, predictability with which some
of the issues will be handled, or to avoid adverse publicity in the local media
surrounding the Chapter 11 filing.
In cases where the forum is improper or inconvenient, the present rules allow
venue to be transferred, upon the motion of a party in interest. Is current
Some speculate that a broad venue choice has the effect of pressuring judges
to decide cases and issues in a way to attract future desirable cases. Others
disagree, arguing that there is no recent data to suggest that judges are
reluctant to transfer cases or dismiss improperly venued cases. They generally
find that, except in some highly celebrated cases, the current system of debtor
choice of forum, with appropriate opportunities to challenge improperly venued
cases, works well. In any event, they find nothing wrong in the notion that a
company, when presented with options, will prefer the one most favorable to
One suggestion for reform might be a kind of "center of gravity" test,
weighing many factors, for judging where venue is proper. Such a test would
not permit the place of incorporation as a proper venue, if this is the only
The United States Trustee may be in a good position to raise venue problems
and file motions to change venue. One possible reform might include mandating
this more active role, or to empower the judge to transfer venue on his own
motion, where appropriate.
Professional Compensation: Does Bankruptcy Cost Too Much?
September 15, 1995
Among the most extraordinary costs associated with bankruptcy reorganization
and liquidation cases are professional fees. Under the former Bankruptcy Act,
an "economy of administration" standard was utilized to determine professional
fees, resulting in the lowest reasonable fee paid to professionals. With the
1978 Code came a "cost of comparable services" standard, which permits a court
to award fees at the same hourly rates paid to professionals providing services
outside the bankruptcy context.
Currently, the debtor or the estate must pay not only the fees and expenses of
its own professionals (attorneys, accountants, investment bankers, etc.), but
also those of professionals hired by official committees of creditors and
equity holders, and those retained by secured creditors. While the fees paid
in large cases receive national scrutiny and much criticism, this may be an
area of more "heat" than "light". A national survey by the ABI in 1991
suggests that (a) there is ample scrutiny of fee requests by interested parties
and the courts; (b) there is broad evidence of disuniformity in the courts' fee
practice around the country, but little evidence of professionals' abuse,
except in rare mega cases, and (c) the burden of fees falls most
disproportionately on smaller business cases and is often a factor in the
failure of these cases. For example, fees as a percentage of available assets
are no more than 5% in most average to large sized cases, but 25-33% in smaller
chapter 11's. There is also evidence that market competition among
professionals in the larger cases is driving down some costs as the number of
these cases decline.
In the consumer bankruptcy area, a study of panel trustees finds that a
combination of the lawyer marketplace (including advertising and
certification), trustees and the courts have worked to control fees, largely to
the debtor's benefit. Because effective lawyering can increase the
distribution to creditors beyond the expense to the estate, it is probably
unwise to impose fee caps or other arbitrary controls. Bankruptcy "mills"
continue to be a problem for both the courts and debtors, due to the costs
needed to repair errors in the representation by the mills.
The U.S. Trustee is responsible for conducting a rigorous review of
professional fee applications. They can play an especially useful role in
smaller cases lacking active creditor involvement. Some believe uniform
national fee guidelines can help, while others prefer the standards to be
flexible enough to reflect local practice. Fee auditors are employed in some
larger cases to good effect to find abusive practices. Another recent
development is the concept of "fee budgeting" in large cases. While
potentially helpful, budgets may not be flexible enough to deal with the
unpredictability of bankruptcy practice.