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Third Circuit Holds Pre-Effective and Post-Confirmation Date “Claims” Can be Discharged in Bankruptcy
Toward the end of 2021, a federal circuit court found for the first time that claims that became connected to a debtor’s case after a Chapter 11 plan was confirmed but before the plan’s effective date was subject to discharge. This holding urges extra caution from all creditors and counterparties of a Chapter 11 case until the “effective date” of a Chapter 11 plan is announced.
This decision is of substantial importance where a substantial period exists between “confirmation” and “effectives” dates, which most often occurs when a debtor needs additional time to structure any financing necessitated by the plan. This gap also can arise when the debtor requires regulatory approval for any aspect of the plan.
It is also a good idea for counterparties involved with executory contracts to remain vigilant because debtors routinely reserve the authority to revise plan supplement documents associated with assumption or rejection through the “effective date” and any performance breaches during the time of a gap’s existence may give rise to claims that must be administered through the bankruptcy court process.
The Case of Ellis v. Westinghouse Electric Company
The case, Ellis v. Westinghouse Electric Company, involved a worker at Westinghouse who was fired from his position following confirmation of Westinghouse’s bankruptcy plan but before the plan’s effective date.
The bankruptcy plan and order confirmation is called for any claims initiated against the debtor that occurred before the plan’s effective date to be discharged. An administrative claims bar date was also established for the first business day that was 30 days after the effective date of a Chapter 11 plan. The worker believed that he was wrongfully terminated but did not file a claim by the deadline of the administrative claim’s bar date. The question raised before the court was whether the worker’s wrongful termination claim was discharged as a result of extenuating circumstances.
Bankruptcy Code Section 1141(d)(1)
The Bankruptcy Code’s section 1141(d)(1) states that unless provided by the relevant subsection or in any order confirming a plan that discharges the debtor from any debt that arose before the confirmation date.
After a plan is confirmed, however, a debtor must make plan payments that are bound by the provisions of the reorganization plan. The confirmed plan establishes new contractual rights and replaces or supersedes pre-bankruptcy provisions.
There are exceptions to the rule that an order confirming a plan functions as a discharge of any type of debtor from most types of debts. The plan, however, does not discharge an individual debtor of any debt made non-dischargeable under Bankruptcy Code section 523. Except for a few limited situations, discharges are not available to an individual debtor unless all payments have been made under the plan. Confirmation does not discharge a debtor if a liquidation plan is involved as opposed to a reorganization plan unless the debtor is an individual. If the debtor is an individual, confirmation of a liquidation plan leads to a discharge unless grounds exist for denying the debtor a discharge if the case was proceeding under Chapter 7 instead of Chapter 11.
The Holding of the Westinghouse Case
This case held that section 114(1) contained language relevant to the outcome of the case. A federal court in Pennsylvania found for the worker on the discharge matter and suggested that the most likely reading of the statute is that the “except” in the “except as otherwise” language modifies the phrase “any debt.” The court found, though, that the “except as otherwise” phrase does not modify the language “before the date of such confirmation.”
Turning over the District Court’s Decision, the appellate court found that the phrase, “except as otherwise provided,” applied to all of section 1141(d)(1). Due to this finding, the Court of Appeals held that section 1141(d)(1) of the Bankruptcy Code creates a default rule in relation to the discharge that allows a plan or confirmation order to have priority over that rule. The appellate court additionally found that the Bankruptcy Code’s section 503 works in conjunction with section 1141(d)(1) by authorizing a bankruptcy to establish and enforce administrative claims bar dates before which time claims must either be filed or discharged.
The Role of Bankruptcy Code Section 503
Section 503 of the Bankruptcy Code states that a person can file a timely request for payment of an administrative expense or may later file such a request if the court permits doing so with cause. Following notice and a hearing, there must be administrative expenses permitted other than the claims allowed.
A Question to Consider
The circumstances in the case did not involve a disagreement that the worker’s claim came about on the date that the worker was terminated from his position. There was also adequate evidence that the worker was sufficiently informed of the administrative claims bar date and could file a claim. A question, however, arises about what would happen if the situation was more nuanced.
Perhaps in a situation in which a counterparty was involved in an agreement that was taken in connection with a Chapter 11 plan where the debtor was current on financial obligations at the time of the plan’s confirmation but before the effective date engages in actions that do not comply with the agreement’s requirements. It remains uncertain what the counterparty could do if these actions did not result in the counterparty facing damages before the administrative claims bar date but could potentially have an impact on the counterparty in the future.
The Lesson of the Case
The lasting impact of the case will be that there are no shortcuts or ways around the bankruptcy process and that counterparties must assert rights and pursue redress in bankruptcy court. Additionally, parties must make sure to pursue redress in the appropriate window of time even if it remains uncertain whether the claim will or will not quantify its damage.
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