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The Ninth Circuit Considers Permissible Non-Debtor Releases
Many reorganizations plan involve the release of non-debtor liability, but there are varied opinions about the role of these releases. While releases of non-debtor liability are attractive to parties like directors and officers, others argue that releasing non-debtor is against the intent of the Bankruptcy Code.
Due to these conflicting perspectives, a current split exists with Circuit Courts concerning how non-debtor releases are treated. While a majority of courts permit non-debtor releases, not all of them do. In a recent case, a Ninth Circuit court followed the perspective that non-debtor releases are prohibited under the Bankruptcy Code.
The Goal of Reorganization Plans
Reorganization plans are often established to resolve any associated issues that will impact debtors. One increasingly common technique used by bankruptcy courts is to grant a reorganized debtor the ability to widen the scope of the discharge plan to address the release claims against non-debtors with a continuing affiliation to another debtor. This technique often proves invaluable to debtors who will continue to be met with post-confirmation indemnification claims.
A Summary of 11 U.S.C. §§105(a)
Title 1 of the United States Code addresses bankruptcy. 11 U.S.C. §§ 105(a) acknowledges that discharging a debtor’s debt has no impact on the liability of any other entity for a debt.
Even though 524(e) prevents bankruptcy courts from discharging non-debtor liabilities, 105(a) states that courts are granted broad powers to issue any judgments that are either appropriate or necessary to carry out the applicable bankruptcy section.
This does not mean that bankruptcy courts turn to 105(a) to validate a non-debtor release. Instead, the authority granted by 105(a) is prohibited from being used by courts to authorize any type of relief that is inconsistent with other bankruptcy code provisions.
The Repercussions of In Re Transit Group Inc.
In the In re Transit Group Inc. bankruptcy case, a reorganization plan proposed releasing all of a debtor’s claims and causes of actions. After evaluating existing law, the court, in this case, held that 524(e) does not prohibit non-debtor releases or permanent injunctions in circumstances where contributions were made by the released party to the debtor’s reorganization.
In reaching its decision in this case, the court agreed with the view expressed by the Second, Third, Fourth, and Sixth, and Seventh Circuit. These Circuit Courts have held that when the appropriate circumstances arise, bankruptcy courts can issue permanent injunctions or third-party releases.
The Influence of Blixseth v. Credit Suisses
In 2020, the Ninth Circuit suggested that its prohibition against non-debtor was not total. In Blixseth v. Credit Suisse, the Ninth Circuit held that a plan releasing non-debtors was permissible because it did not impact obligations associated with claims initiated by creditors and later discharged through bankruptcy. Consequently, the Ninth Circuit court held that not all non-debtor releases are prohibited.
The Impact of A.H. Robins and Drex Burnham
Among the cases in which courts have ruled in support of non-debtor releases, A.H. Robins and Drex Burnham involve cases in which the court ruled in support of including a non-debtor release and/or permanent injunction as part of a debtor’s provisions. The reorganizations in these cases involved tort liabilities initiated against third parties, who contributed substantial amounts of money to the debtors’ reorganization plan to compensate claims as well as to make the debtor’s reorganization plan to compensate claimants. As a result, the third parties demanded release in consideration for paying debtors.
The Impact of Munford
In Matter of Munford, the Eleventh Circuit Court tackled non-debtor releases involving settlements reached in adversary proceedings. The Eleventh Circuit, in this case, affirmed permanent injunctions against non-settling defendants where the injunction was a critical element of the debtor’s settlement and the injunction was both equitable and fair. The court in Munford relied on 11 USC section 105 (a) as well as Federal Rule of Bankruptcy Procedure 7016. Due to Munford, non-debtor releases that are necessary for effective reorganization can often be obtained provided there is significant compensation to the enjoined party and substantial contribution from the non-debtor that make reorganization possible.
A Review of Influential Court Rulings Addressing Non-Debtor Releases
Courts ultimately have issued several rulings influencing how non-debtor releases should be handled. Consider the following:
- In Transit Group, the court found that when the appropriate circumstances exist, a bankruptcy court can issue either permanent injunctions or third-party releases
- In Credit Suisse, the court found that not all non-debtor releases including those that do not impact obligations with creditor-initiated claims are prohibited
- In Drex Burnham, the court found that non-debtors releases can occur in cases including non-debtor release and/or permanent injunction
- In Munford, the court found that permanent injunctions can exist in cases where a critical aspect of a debtor’s settlement and injunction were equitable and fair
The Aftermath of In Re Astria Health
In Re Astria Health, the court increased the number of situations in which non-debtor releases are permissible. The court, in this case, found that even though a consensual reorganization plan was involved, this plan was eventually upheld and confirmed. In arriving at its decision, the court relied on the Ninth Circuit’s ruling in Blixseth, which found that non-debtor releases are not limited to people who owe a duty to the bankruptcy estate because these limitations impact bankruptcy provisions. The Astria court ultimately widened the Blixseth ruling to approve releases of non-debtors by both debtors and third parties. The court also held that the release of estate claims against non-debtors was sufficient because claims did not exist against released parties. The court also found that Section 524(e) prohibitions concerning the release of claims against non-debtors were inapplicable to non-debtor releases under the plan.
The Aftermath of In Re Astria Health
In Re Astria Health, the court increased the number of situations in which non-debtor releases are permissible. The court in this case found that even though a consensual reorganization plan was involved, this plan was eventually upheld and confirmed. In arriving at its decision, the court relied on the Ninth Circuit’s ruling in Blixseth, which found that non-debtor releases are not limited to people who owe a duty to the bankruptcy estate because these limitations impact bankruptcy provisions. The Astria court ultimately widened the Blixseth ruling to approve releases of non-debtors by both debtors and third parties. The court also held that the release of estate claims against non-debtors was sufficient because claims did not exist against released parties. The court also found that Section 524(e) prohibitions concerning the release of claims against non-debtors were inapplicable to non-debtor releases under the plan.
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