Chapter 12 Working Group:
Direct Payments
Background
The chapter 12 trustee system was modeled after the chapter 13 trustee system. As a result,
trustees play a central role in the administration of chapter 12 cases. [ FN: The United States trustee system, originally
constituted in 1978 as a pilot program in only a few judicial districts, was permanently adopted in
1986
in virtually every jurisdiction (Bankruptcy Administrators are used in Alabama and North Carolina
rather than U.S. trustees). Bankruptcy Judges, United States Trustees, and Family Farmer
Bankruptcy
Act of 1986, Pub. L. No. 99-554, 100 Stat. 3088 (codified as amended at 28 U.S.C. §
§ 581-589a
(1994)). The system was created in order to remove case administration responsibilities from the
judiciary. H.R. Rep. No. 178, 99th Cong., 2d Sess. 1, 18-22 (1986), reprinted in 1986
U.S.C.C.A.N. 5227, 5229-34. The legislative history reveals that the appointment of private
trustees to
administer bankruptcy estates adequately separates administrative and judicial functions and
places the
administrative duties in the branch of government most capable of exercising independent
oversight.
Id.] Among standing trustees’ statutorily-prescribed duties,
[ FN: If the case load in a particular region
warrants, the United States trustee for each region may, subject to the approval the Attorney
General,
appoint and supervise a standing chapter 12 trustee. 28 U.S.C. § 586(b)
(1994).] are a host of services that benefit the court, the debtor, and the
creditors. These duties include: accounting for all property received; investigating the financial
affairs of
the debtor; ensuring that the debtor performs in accordance with the provisions of a confirmed
plan;
maintaining information regarding the administration of the estate and furnishing information
regarding
the estate’s administration to creditors and other parties in interest; making a final report
and
filing a final accounting with the bankruptcy court and the United States trustee; appearing and
being
heard at any hearing concerning the confirmation of a plan or the sale of property of the estate;
and
taking control of the debtor’s assets and operating the farming operation if the court
removes the
debtor as debtor in possession. [ FN: 11 U.S.C.
§
1204(a) (1994). It has been recognized that: The trustee is the nucleus of a reorganization; his or
her
responsibilities begin the day the case is filed and continue until the day the case is closed. The
trustee is
a fiduciary to all parties in interest, an advisor to the court and a source of information, education
and
mediation leading hopefully to confirmation. . . .[I]n the real world of debtors, creditors and the
attendant emotions and fragile psyches, the trustee is often the difference between success and
failure.
His or her voice is one of reason endeavoring to find a common ground among the various
adversaries.
In re McCann , 202 B.R. 824, 830 (Bankr. N.D.N.Y. 1996).]
Disbursing plan payments is another important duty that standing trustees perform in
connection
with the administration of chapter 12 bankruptcy cases. [
FN: 11 U.S.C. § 1202(b) (1994).] The Bankruptcy Code
requires the
chapter 12 plan to "provide for the submission of all or such portion of future earnings or
other
future income of the debtor to the supervision and control of the trustee as is necessary for the
execution of the plan." [ FN: Id.
§
1222(a)(1). Accord id. § 1322(a)(1).] Additionally, the Code
directs
the
standing trustee to make payments to creditors under the plan " [e]xcept as otherwise
provided in
the plan or in the order confirming the plan . . . ." [
FN: Id. § 1226(c). Accord id. § 1326(c).]
As recompense for performing the services in connection with the administration of the
chapter 12
case, the standing trustee is directed to deduct from "each" of the debtor’s plan
payments a percentage based upon any payments made under the debtor’s plan. [ FN: Id. § § 1202(d); 1226; 28
U.S.C. § 586(e).
The Bankruptcy Code specifies the order in which plan payments are to be disbursed: (b) Before
or at
the time of each payment to creditors under the plan, there shall be paid-- (1) any unpaid claim
off the
kind specified in section 507(a)(1) of this title; and (2) if a standing trustee appointed under
section
1202(c) of this title is serving in the case, the percentage fee fixed for such standing trustee under
section 1202(d) of this title. 11 U.S.C. § 1226(b) (1994) (emphasis
added).]
The Attorney General, after consultation with the United States trustee, fixes the percentage fee
to be
charged by the standing trustee. In chapter 12 cases, the percentage fee may not exceed 10% of
the
first $450,000 "made under the plan" plus 3% of
payments "made under the plan" after the "aggregate
amount of payments made under the plan exceeds $450,000." [ FN: 28 U.S.C. § 586(e)(1)(B) (1994)
(emphasis
added).] The standing trustee "shall collect such percentage fee from
all payments received" by the trustee in the cases in which such
individual serves. [ FN: Id. §
586(e)(2)
(emphasis added).] The amounts levied upon payments made under the
plan
are applied to offset three costs of the system. First, as previously indicated, a portion of such fees
are
applied toward the payment of the standing trustee’s personal compensation. [ FN: Id. § 586(e)(2)(A),
(B)(i).] Second, a part of the fees are used to pay the salaries of the
trustee’s staff and other actual overhead expenses. [
FN: Id. § 586(e)(2)(B)(ii).] Third, a portion of the
fees are
remitted to the "United States Trustee System Fund." [ FN: Id. §
586(e)(2).]
The laudable purpose of the Congressionally mandated payment structure is to maintain a
predominantly self-funding program which compensates standing trusteesfrom funds generated by
debtors who elect to participate in the bankruptcy system. More specifically, Congress
intended those who reap the benefits of chapter 12 to assume a substantial portion of the costs of
administering the bankruptcy estate by requiring that a percentage of estate assets be dedicated to
funding the trustee system. This purpose is consonant with the long-standing precept under all
chapters
of the Bankruptcy Code that the payment of administrative expenses should be derived from the
assets
administered. [ FN: George H. Singer, Zeroing
Out the Standing Trustee ’ s Percentage Fee: The
8th
Circuit Approves " Outside the Plan " Payments for chapter 12 Debtors , 11 Norton Bankr. L.
Adviser 7, 7 (1994). It is important to note that a chapter 12 standing trustee assumes significant
financial risks. A trustee receives absolutely no remuneration for the services performed in any
case in
which judicial confirmation is not obtained. The compensation structure ’ s
economy-of-scale
results in trustees often receiving no compensation in cases in which substantial effort and outlay
have
been expended and receive increased compensation in other cases where the labor and expense
have
not been as great. See In re Harris , 200 B.R. 745, 748 (Bankr. D. Mass. 1996)(quoting
with
approvalIn re Savage , 67 B.R. 700, 706-08 (D.R.I. 1986)( " The ‘ no asset ’ or
‘
meager asset ’ cases can be handled professionally, because the system is not dependent on
each individual matter to generate its own fees. " )).]
A number of the provisions of the Bankruptcy and Judicial Code governing the distributions
to
creditors and the trustee’s percentage fee refer to payments "made under the
plan"
or to claims "provided for by the plan," suggesting that Congress contemplated that
certain
payments might not be "made under the plan" or that there may be claims which are
not
"provided for by the plan." [ FN:
See,
e.g. , 11 U.S.C. § § 1225(a)(5), 1226(b) & (c) (1994); 28 U.S.C.
§ 586(e)
(1994).] The directive is not, however, altogether clear on whether those
payments can be sheltered from the statutory fee. Seizing the permissive grant of authority in the
Code,
[ FN: Section 1225, which sets forth the
requirements of plan confirmation, provides: (a) . . . the court shall confirm a plan if-- . . . (5)
with
respect to each allowed secured claim provided for by the plan-- . . . (B)(ii) the value, as of the
effective date of the plan, of property to be distributed by the trustee or the debtor under the
plan on
account of such claim is not less than the allowed amount of such claim . . . . 11 U.S.C. §
1225(a)(5)(B)(ii) (1994) (emphasis added). Accord id. § 1226(c) (set forth supra at text
accompanying note 6). Notably, the ostensibly affirmative grant contained in section
1225(a)(5)(B)(ii) is
absent from chapter 13 despite its many mirror-image similarities. See id. §
1325(a)(5)(B)(ii).] chapter 12 debtors have drafted plan provisions that
enable
them to act as disbursing agents in order to make "direct payments" (often
inappropriately
referred to in bankruptcy parlance as "outside the plan" payments), thereby avoiding
payment of the statutory fee. [ FN: It is
frequently
argued that if a chapter 12 plan provides for direct payments, submitting that portion of the
income to
the standing trustee is not necessary to the execution of the plan as required under the statute
because
the plan specifically provides for the debtor to deal with that creditor ’ s claim in a manner
that is
separate and apart from the plan itself. See Jason S. Brookner, Primer on Debtor Direct
Payments in
chapter 12 Cases , 15 Am. Bankr. Inst. J. 26, 26 (1996). See also 11 U.S.C. § §
1222(a)(1),
1226(c), 1322(a)(1), 1326(c) (1994) (discussed supra at text accompanying notes
5-6).]
The courts are sharply divided on the issue of whether chapter 12 debtors may make direct
payments to creditors whose claims have been impaired or modified under chapter 12 and whether
the
standing trustee’s percentage fee may be avoided on those direct payments. [ FN: The same dispute has arisen in the context of
chapter
13. Compare In re Aberegg , 961 F.2d 1307 (7th Cir. 1992)(finding that bankruptcy
courts
have the discretion to permit debtors to act as disbursing agents and make direct payments,
thereby
avoiding the trustee ’ s percentage fee); Foster v. Heitkamp (In re Foster ), 670
F.2d
478 (5th Cir. 1982)(examining a number of factors, including the degree of debtor responsibility
and
reasons contributing to the need for relief under chapter 13, which govern the
determination);In
re Gregory , 143 B.R. 424, 427-28 (Bankr. E.D. Tex. 1992)(requiring justifiable cause as a
prerequisite and the balancing of a number of considerations) with In re Bernard , 201
B.R.
600, 603 (Bankr. D. Mass. 1996);In re Harris , 200 B.R. 745, 748 (Bankr. D. Mass.
1996)(holding that to the extent that plan payments on modified or impaired claims are funded
with
future income, such payments must be submitted to the trustee and the court may not permit
direct
payment);In re Ford , 179 B.R. 821, 823 (Bankr. E.D. Tex. 1995)(opining that allowing
debtors " to pick and choose those claims they will submit to the supervision of the trustee
undermines
the integrity of the entire trustee system " ).] At least three divergent
approaches have emerged in the reported decisions.
The first view holds that all payments to creditors whose claims are modified under a chapter
12
plan must be both collected and disbursed by the standing trustee and are subject to the
trustee’s fee. [ FN: See, e.g.
,In re Marriott , 161 B.R. 816, 819 (Bankr. S.D. Ill. 1993);In re Finkbine , 94
B.R.
461, 463-67 (Bankr. S.D. Ohio 1988).] A claim is generally deemed to be
"modified" or "impaired" if the plan alters the legal, equitable or
contractual
rights of the creditor. [ FN: Wagner v.
Armstrong
(In re Wagner ), 36 F.3d 723, 725 n.3 (8th Cir. 1994)(defining an impaired claim as " one
whose legal, equitable, or contractual rights have been diluted by the bankruptcy plan " ). Cf. 11
U.S.C. § 1124 (1994). A claim that is in any way modified or impaired by a plan is said to
be "
provided for by the plan " or " made under the plan. " Marriott , 161 B.R. at
819-21.]
The second view holds that either the trustee or the debtor may disburse a particluar plan
payment, but irrespective of the identity of the party making the actual disbursement, the standing
trustee’s percentage fee is computed as a percentage of the aggregate of all modified
claims.
The identity of the payor is not considered under this view. Rather, the reference in the
Bankruptcy and
Judicial Code to payments "made under the plan" focuses on whether the
creditors’
rights are modified by operation of bankruptcy law. [
FN: Fulkrod v. Barmettler (In re Fulkrod ), 126 B.R. 584, 586 (Bankr. 9th Cir.
1991), aff ’ d sub nom. , Fulkrod v. Savage (In re Fulkrod ), 973 F.2d 801 (9th
Cir.
1992).] Courts embracing this view generally hold that it is the actual
treatment
of the claim that determines whether the trustee’s percentage fee is owing. [ FN: See, e.g. , id. ;In re Golden , 131
B.R. 201, 203 (Bankr. N.D. Fla. 1991);In re Oster , 152 B.R. 960, 963 (Bankr. D.N.D.
1993);In re Cannon , 93 B.R. 746, 748 (Bankr. N.D. Fla. 1988);In re Sutton , 91
B.R. 184, 186 (Bankr. M.D. Ga. 1988);In re Logemann , 88 B.R. 938, 941 (Bankr. S.D.
Iowa 1988);In re Hildebrandt , 79 B.R. 427, 429 (Bankr. D. Minn. 1987);In re
Hagensick , 73 B.R. 710, 713-14 (Bankr. N.D. Iowa 1987);In re Rott , 73 B.R. 366, 375
(Bankr. D.N.D. 1987).]
The first circuit court to address the issue in chapter 12 was the
9th Circuit Court of Appeals in Fulkrod v. Savage (In
re
Fulkrod). [ FN: 973 F.2d 801 (9th Cir.
1992).] The Fulkrod court aligned itself with the courts that have
adopted the second view. The court indicated that any construction of the statutory scheme that
"renders superfluous the trustee fee provision or, for that matter, the trustee himself,"
should
beavoided. [ FN: Id. at
801.] The 9th Circuit reasoned that
it
"is fairly certain" that if the debtor is allowed to confirm a direct payment plan and
avoid
the trustee’s percentage fee, "the trustee will receive nothing." [ FN: Id. at 802.] The
court therefore concluded that a chapter 12 debtor may not escape liability for the trustee’s
statutory compensation by making payments directly to an impaired creditor. [ FN: Id. at 803 (rejecting the suggestion
gleaned
from the decision of the bankruptcy appellate panel that " limited circumstances " may justify
permitting
a debtor to make direct payments on impaired claims without trustee compensation as an
unauthorized
reading of the statute).]
The third view focuses on the language of the Judicial Code and holds that the debtor may
bypass
the trustee and directly disburse payments on modified claims, with the trustee’s fee being
calculated only on those payments actually "received" and disbursed by the trustee.
[ FN: See 28 U.S.C. § 586(e)(2)
(1994).
See
also supra text accompanying note 9. See, e.g. , Wagner v. Armstrong (In re
Wagner ), 36 F.3d 723, 725 n.3 (8th Cir. 1994). Although the diversity of tests used to reach the
result
has created confusion and a nonuniform body of law, the majority of the courts have held that,
under
certain circumstances, a court may confirm a plan proposing a direct payment to creditors whose
claims
have been impaired or modified under the plan. See Michaela M. White, Direct Payment Plans ,
29
Creighton L. Rev. 583, 598 (1996)(collecting cases); See also 3 Collier on Bankruptcy ô
326.02[3][c][ii], at 326-16 (Lawrence P. King et al. eds., 15th revd. ed.
1996).] Some courts under this view impose little or no restriction on a
debtor’s ability to make direct payments to secured creditors and thereby shelter those
payments from the calculation of the trustee’s percentage fee. [ FN: See, e.g. ,In re Cross , 182 B.R.
42
(Bankr. D. Neb. 1995), aff ’ d sub nom. , Lydick v. Cross , 197 B.R. 321 (D. Neb.
1995);In re Crum , 85 B.R. 878, 879 (Bankr. N.D. Fla. 1988);In re Land , 82
B.R.
572, 578-80 (Bankr. D. Colo. 1988);In re Erickson Partnership , 77 B.R. 738, 747
(Bankr.
D.S.D. 1987), aff ’ d sub nom. , Yarnall v. Erickson Partnership , 83 B.R. 725, 727-28
(D.S.D.), rev ’ d on other grounds , 856 F.2d 1068 (8th Cir. 1988).]
Other courts hold that a debtor’s right to make direct payments to impaired claimants is
not
absolute and employ guidelines for determining when direct payments should be permitted.
[ FN: See, e.g. , Overholt v. Farm Credit Servs.
(In re Overholt ), 125 B.R. 202, 212-13 (S.D. Ohio 1990); Westpfahl v. Clark (In
re
Westpfahl ), 168 B.R. 337, 364 (Bankr. C.D. Ill. 1994);In re Teigen , 142 B.R. 397,
401-02
(Bankr. D. Mont. 1992);In re Beard , 134 B.R. 239, 243-44 (Bankr. S.D. Ohio
1991);In
re Martens , 98 B.R. 530, 534 (Bankr. D. Colo. 1989);In re Bettger , 105 B.R. 607
(Bankr. D. Or. 1989)(enunciating a multi-part test to be used as a template for determining
whether
direct payments should be allowed);In re Pianowski , 92 B.R. 225, 233-34 (Bankr. W.D.
Mich. 1988)(setting forth thirteen nonexclusive factors courts should consider when determining
whether to permit a debtor to serve as a disbursing agent for plan payments). See also In
re
McCann , 202 B.R. 824, 830 (Bankr. N.D.N.Y. 1996)(refusing to impose a multi-factored test
which
would serve as a scorecard for evaluation in favor of a case-by-case assessment with the caveat
that
direct payments on modified or impaired claims is the exception, not the
rule).]
The 6th Circuit in Michel v. Beard (In re Beard)
[ FN: 45 F.3d 113 (6th Cir.
1995).] and the 8th Circuit in
Wagner v. Armstrong (In re Wagner) [
FN:
36 F.3d 723 (8th Cir. 1994).] have allowed debtors to bypass payment of
the
trustee’s percentage fee through direct payment plans.
In holding that chapter 12 debtors may make direct payments on impaired claims and avoid
the
statutory percentage fee on those payments, the 6th Circuit
in
Beard noted that the statute is devoid of any reference to "‘payments that
could
have been received’" or other similar language"‘which would mandate
payment of the percentage fee on a constructive receipt basis.’" [ FN: Id. at 118 (quoting Pianowski , 92 B.R.
at
232).] Similarly, the 8th Circuit in
Wagner rejected the trustee’s contention that the Bankruptcy Code precluded
direct
payments to secured creditors whose claims were modified under the plan. The court concluded
that
"the code does not prohibit plan provisions of this sort." [ FN: Wagner v. Armstrong (In re Wagner ),
36
F.3d 723, 726 (8th Cir. 1994). The Wagner opinion has been broadly interpreted by a number of
courts. See, e.g. ,In re Cross , 182 B.R. 42 (Bankr. D. Neb. 1995)(interpreting
Wagner to hold that debtors have the unfettered right to bypass the trustee and pay any debt
directly
absent a court order under section 105), aff ’ d sub nom. , Lydick v. Cross , 197 B.R. 321
(D.
Neb. 1995);In re Wruck , 183 B.R. 862, 864 (Bankr. D.N.D. 1995). Indeed, the standing
trustee in at least one jurisdiction (North Dakota, the jurisdiction from which Wagner emanated)
is
relegated to a case-by-case appointment and required to seek compensation under sections 326
and
330 of the Bankruptcy Code like any other professional.] Consequently,
under
Wagner, a debtor has the discretion to draft a plan that provides for direct payments,
thereby
avoiding payment of the trustee’s fee. The court expressly rejected the Fulkrod
analysis,
finding that it was based upon policy arguments rather than a close textual analysis. The
Wagner court found that direct payment provisions in chapter 12 plans "are not in
conflict with the bankruptcy code" and are "valid" even if they preclude the
payment
of the percentage fees from those payments made directly by the debtor. [ FN: Wagner , 36 F.3d at 727-28. Accord Pelofsky v.
Wallace , 102 F.3d 350, 353, 356 n.7 (8th Cir. 1996)(affirming the principles set forth in Wagner
but
indicating that because " the meaning of section 586 concerning calculation of the standing trustee
’ s percentage fee under section 586(e) has split inferior federal courts, perhaps Congress,
or
the Supreme Court, will clarify the issue " ).]
Proposal
28 U.S.C. õ 586(e) (1994) should be amended to clarify that the
calculation of the standing trustee’s percentage fee should be based
upon the aggregate of those payments "made under the
plan" on account of claims impaired or modified by operation of
bankruptcy law regardless of whom makes the payment.
Discussion
The Proposal clarifies that the calculation of the statutory percentage fee should be based
upon
payments made on account of claims that are "impaired" or "modified"
under a
plan of reorganization. The Proposal does not disrupt the provisions in chapter 12 which allow a
debtor
to make certain payments directly in limited circumstances. [ FN: It should be recognized that permitting a debtor
to act
as a disbursing agent for payments made under the plan makes it difficult for a standing trustee,
who is
required to monitor the plan payments and make an accounting of disbursements, to perform its
fiduciary obligations. The impetus for making payments directly, however, will vanish in the vast
majority of cases, if a debtor can no longer escape liability for the statutory
fee.]
There may be legitimate reasons for permitting such payments. The bankruptcy court should have
the
discretion to make the determination. Such direct payments, however, if made on claims that are
impaired or modified "under the plan," would not be exempt from the calculation of
the
percentage fee.
The inconsistent case law that has emerged from an interpretation of the labyrinthine
languagein
section 586(e) threatens the integrity of the very trustee program that Congress viewed as integral
to
chapter 12. "Payments to creditors whose rights have been modified by operation of
bankruptcy
law is the essence of case administration, a function legislatively assigned to the chapter 12 trustee
under the scheme Congress created." [
FN:
Singer, supra note 13, at 10.] Authorizing chapter 12 debtors to distribute
plan
payments in order to circumvent the trustees’ fee is fundamentally inconsistent with the
Congressional determination that a percentage of plan payments should fund the entire system.
The
system, as a result, is suffering. The present state of the law on direct payments in some
jurisdictions
impairs the bankruptcy system’s ability to attract and retain qualified individuals to serve as
standing trustees and assume the fiduciary obligations imposed by the Bankruptcy Code.
Competing Considerations
The Proposal calls into question the necessity of a standing trustee in chapter 12 cases and
whether a principled basis exists for differentiating between a chapter 12 debtor in possession and
a
chapter 11 debtor in possession. If the Commission views the oversight and administrative
functions
performed by the standing trustee in chapter 12 as necessary to the administration of chapter 12
cases,
the fundamental question then becomes how best to ensure an adequate compensation structure in
order to fund the system. Absent an adequate assurance of remuneration for the services
provided, the
United States trustee will simply be unable to attract and retain qualified individuals willing to
serve as
standing trustees.
It has been argued that standing trustees should be compensated like all other professionals
based
upon the reasonable value of the services rendered. Similarly, the reasonableness of that
compensation
in an individual case should be subject to judicial review. The genesis for this contention is that
the
statutory percentage fee in chapter 12 (due to the often very substantial debt payment being
serviced
under a plan) is disproportionate to the amount of time and resources actually expended in
administering an individual case. Although the argument has some facial appeal, it fails to accord
proper
consideration to the fact that the percentage fee structure contemplates an economies-of-scale
method
of compensation in order to fund the administration of the entire system. [ FN: See supra note 13 (noting that standing trustees
receive no remuneration for the services performed in any cases which do not result in a
confirmed plan
since the fee is calculated based upon disbursements made under the plan)
.]
Under a self-funding system entirely dependent upon fees based on a percentage of payments,
some
debtors will inevitably pay more than their share of the costs of the trustee program. This is,
however,
necessary because other debtors that avail themselves of the system will pay less, or nothing at all.
The statutory percentage fee, in some cases, adversely effects feasibility of a plan of
reorganization
because the larger debt service can make the fee substantial. Additionally, the imposition of the
10%
fee on payments made on modified claims under a plan effectively reduces, and often eliminates,
the
amount of disposable income that would otherwise be available for unsecured creditors. However,
the
collective proceeding that chapter 12 offers is voluntary and benefits both debtors and creditors
who
must each share the concomitant risks and costs of administration.
|
|
