Claim Buyer Beware: Impact of Claim Buying in Chapter 11 Bankruptcy Cases

A common tactic of secured creditors to block confirmation of a Chapter 11 debtor’s cramdown plan of reorganization is to purchase the claims of unsecured creditors and vote to deny confirmation on behalf of such claims.  For example, if a debtor has one $2 million secured claim and one unsecured claim in the amount of $15,000, and the secured creditor wants to avoid the possibility of being crammed down under section 1129(b) of the Bankruptcy Code, the secured creditor can buy the unsecured claim and vote it against the plan.  Under these facts, if the secured creditor buys the unsecured claim and votes it and the secured claim against the plan, the debtor would be unable to meet the requirement of 1129(a)(10) that at least one impaired class has voted to accept the plan, and the plan would be unconfirmable.

On December 30, 2013, Judge Williamson (a Bankruptcy Judge sitting in the Tampa Division of the Middle District of Florida) issued an opinion expounding on when a creditor who has bought a claim may change that claim’s vote in favor of the plan.  In re J.C. Householder Land Trust #1, 502 B.R. 602 (Bankr. M.D. Fla. 2013).  In J.C. Householder, a secured creditor whose claim was to be crammed down under the debtor’s proposed Chapter 11 plan purchased the claim of an unsecured creditor whose claim was sufficient to control the vote of the general unsecured class.  The unsecured creditor, however, had already voted its claim in favor of the plan.  Thus, the secured creditor had to file a motion to change the unsecured claim’s vote.

Judge Williamson analyzed the issue under Bankruptcy Rule 3018, which requires a creditor to demonstrate “cause” before it is allowed to change a vote in favor or against a plan.  Noting Bankruptcy Rule 3018 does not define “cause,” Judge Williamson looked to the definition of “good cause” under Black’s Law Dictionary, which is defined as “legally sufficient reason.”  Judge Williamson then found that “the reason for changing a vote is legally sufficient under Rule 3018 if it promotes consensual negotiation and fair bargaining.  Changing a previously cast ballot to block confirmation does not promote consensual negotiation or fair bargaining.  In fact, it does the opposite.”  Judge Williamson ultimately held the secured creditor had not demonstrated “cause” to change the unsecured claim’s vote under Rule 3018 because the only purpose for doing so was to block confirmation.

Secured creditors who buy another creditor’s claim that has already voted beware: you must have a better reason than “I don’t want to get crammed down” to show “cause” for changing the vote under Rule 3018.  Conversely, Chapter 11 debtors should take note of this opinion and recognize that a creditor’s ability to change its vote for or against a plan of reorganization is not absolute.

Chris Thompson, Esquire

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