Legislative Update Proposed Rules Amendments Published for Public Comment

At its Jan. 10-11, 2002, meeting, the Committee on Rules of Practice and
Procedure approved the recommendation of the Advisory Committee on Bankruptcy Rules
to publish for comment proposed amendments to the following rules and forms. The
comment period ends April 22, 2002.

Proposed Rules Amendments Published for Public Comment

The Advisory Committee on Bankruptcy Rules was scheduled to meet on Sept.
13-14, 2001, in Plymouth, Mass. The meeting was canceled due to the tragic
events of Sept. 11.

Although the Advisory Committee did not meet in September, the committee did take
action to approve a preliminary draft of amendments to Bankruptcy Rule 1005 and
Official Forms 1, 3, 5, 6, 7, 8, 9, 10, 16A, 16C and 19.
The action was taken in response to the approval of a Privacy and Public Access to
Electronic Case Files policy by the Judicial Conference of the United States on the
recommendation of the Committee on Court Administration and Case management in
September 2001.

Preliminary Draft of Proposed Amendments to Bankruptcy Rule 1005, and Official
Forms 1, 3, 5, 6, 7, 8, 9, 10, 16A, 16C and 19

Synopsis of Proposed Amendments

Rule 1005 is amended to implement the Judicial Conference policy to limit the
disclosure of social security numbers in the title of the case.

Official forms 1, 3, 5, 6, 7, 8, 9, 10, 16A, 16C and 19
are amended to limit the disclosure of social security numbers and similar identifiers
by requiring only the last four digits of the social security numbers and the last
four digits of any account numbers that debtors may have with creditors. The forms
also are amended to include a reference to 11 U.S.C. §110, which requires the
full disclosure of the social security number of bankruptcy petition preparers.

Text of proposed amendments to Rule 1005 is as follows:

Rule 1005. Caption of Petition

The caption of a petition commencing a case under the Code shall contain the name
of the court, the title of the case and the docket number. The title of the case
shall include the name, last four digits of the social security number and employer's
tax identification number of the debtor and all other names used by the debtor within
the six years before filing the petition. If the petition is not filed by the
debtor, it shall include all names used by the debtor that are known to the
petitioners (new material in italics).

Committee Note

The rule is amended to implement the Judicial Conference policy to limit the
disclosure of a party's social security number and similar identifiers. Under the rule,
as amended, only the last four digits of these identifiers need be included in the
caption of the petition.

Opportunity for Public Comment

Please provide as soon as possible any comments and suggestions on the proposed
amendments whether favorable, adverse or otherwise. The comment deadline is April
22, 2002. The Advisory Committee on Bankruptcy Rules is scheduled to meet on
March 21-22, 2002, and will consider all comments received by that time at
the meeting. Comments submitted after the Advisory Committee's March 2002 meeting,
accordingly, will be circulated to the Advisory Committee members for their review
only by mail or electronic means. Please send all correspondence to: Secretary,
Committee on Rules of Practice and Procedure, Administrative Office of the United
States Courts, Washington, D.C., 20544. Comments may be sent elec-tronically
via the Internet to www.uscourts.gov/rules/.

The Advisory Committee has scheduled a public hearing on the proposed amend-ments
for April 12, 2002, in Washington, D.C. If you wish to testify, you
must contact the committee secretary at the above address at least 30 days before
the hearing.

The Advisory Committee will consider all comments received. After the public
comment period, the Advisory Committee will decide whether to submit the proposed
amendments to the Standing Committee on Rules of Practice and Procedure. At present,
the Standing Committee has not approved these proposed amendments, except to authorize
their publication for comment. The proposed amendments have not been submitted to nor
considered by the Judicial Conference or the Supreme Court.

Law School Deans, Professors Ask Congress to Reconsider Securitization
Provision

January 23, 2002

Senator Patrick Leahy

433 Russell Senate Office Bldg.

Washington, D.C. 20510

Congressman F. James Sensenbrenner

2332 Rayburn House Office Building

Washington, D.C. 20515-4909

Dear Chairman Leahy and Chairman Sensenbrenner:

The Enron tragedy should remind everyone of a fundamental principle of American
regulatory and statutory law. The system does not work unless there is public
disclosure and public accountability.ïInexplicably, however, Congress seems poised to
adopt, as part of the proposed bankruptcy legislation now in a conference committee,
a "technical" amendment that would institutionalize and encourage one of the practices
that has led to Enron's failure and its harsh consequences.

As law professors specializing in bankruptcy law, commercial law, corporate law and
corporate finance, we write to you as the Chairman of the Senate delegation and the
House of Representatives delegation to the Conference Committee on S. 420/H.R.
333. We call your attention to §912 of both bills, which permits a debtor and
one favored creditor to engage in a secret transaction to remove valuable, liquid
assets from the corporate bankruptcy estate of a troubled borrower and place them beyond
the reach of the courts and other creditors. Proposed §912 would eliminate the
ability of the courts to police one form of sham sales. This would permit a favored
party to escape the rules applicable to all other creditors in bankruptcy and would
encourage more companies to recast liabilities so that they no longer appeared on
balance sheets, much to the detriment of the investing public and other creditors of
the business.

Cloaked in highly technical language, the asset securitization proposal would
fundamentally change American bankruptcy law. It would permit large, sophisticated,
well-counseled lenders to engage in "off-book transactions" that are not publicly
reported and, if the company gets into financial trouble, to avoid the bankruptcy
process entirely—to the lasting detriment of the corporation's employees, its other
creditors, and its very prospects for survival. Especially in this economy, with
Enron only the latest example of what can happen when a company and its auditors do
not make full public disclosure of financial circumstances, the Congress should not
adopt this proposal.

Background

In any bankruptcy, all creditors are bound to a collective resolution of their
relationships with a debtor. Every lender in every case would like a way to escape
from bankruptcy, taking a disproportionate share of the assets and leaving behind the
remaining creditors. Those left behind, of course, include the corporate debtor's
employees, pension funds, trade creditors, tort victims and everyone else who extended
credit, in one form or another, to the debtor. In bankruptcy, secured creditors
receive preferential treatment because they hold an interest in collateral, while others,
such as equity investors, are subordinated. Federal bankruptcy law controls the
priority and timing of payment. Chapter 11 reorganization and chapter 7 liquidation
work, however, only if all creditors are part of the bankruptcy process, and no
single creditor is allowed more than its share from the estate.

The corporate bankruptcy system today, built on more than 20 years of experience
and case law since the enactment of the Bankruptcy Code of 1978, generally works
well. Indeed, the market for proper, deliberate asset securitization is booming under
present law. There is no need for a change, especially one that would throw out a
century of court decisions carefully distinguishing two types of transactions—sales and
loans—that often look similar but have fundamentally different economic functions.

The proponents of §912 make the claim that every credit group makes when it
petitions Congress for preferential treatment in bankruptcy: Financing costs will be
reduced because of greater "predictability." Unfortunately, it is not possible to lower
total costs when total risks remain the same. Instead, §912 simply gives one group
of lenders a much better position than all the others, driving up the costs for all
other parties. Naturally, giving one interest group the right to ignore the rules that
all the other creditors have to obey makes it "predictable" that the favored group will
do better if there is a bankruptcy of the debtor. Favored institutions may charge
less to make loans if they know they will be given a substantial advantage over all
the other creditors. Yet there is no reason that these securitized creditors should
be given a special preference over banks, bondholders, suppliers, tort victims,
pension funds and employees who will be forced to bear the increased risks, whether
they can afford to or not.

Bankruptcy courts have always been charged with looking through transactions to
determine their economic effect. Labels do not govern, as bankruptcy courts are quick
to point out that they will not be fooled by form over substance. Section 912
proposes to do exactly that: strip the court of the authority to analyze the economics
of the transaction to see if it was a loan or a sale, instead binding the courts
to the labels selected by the very parties who benefit from those labels.

The Risks Associated with Asset Securitization

Some creditors have attempted to use the fundamental distinction in bankruptcy law
between loans and true sales to disguise a commercial loan so that lenders will be
treated instead as "buyers" of the debtor's property. If they can reclassify themselves
as buyers, these lenders will be free from the collective treatment of bankruptcy.
Not every asset securitization is a disguised loan transaction, and asset securitization
is a valuable financial tool. Yet it is essential that the Bankruptcy Code not be
amended to open a massive loophole so that parties interested in dealing with certain
assets who simply rename a "loan" a "sale" will be exempt from bankruptcy because the
property was no longer part of the debtor's estate.

There are significant risks associated with permitting loans to be treated as sales,
as the proponents of §912 would do:

1. Asset securitization will prevent many businesses from being reorganized at all.
Chapter 11 depends on a collective disposition of all assets of the estate. Lenders
who have taken property of the debtor as collateral for a loan receive extensive
protection under the Bankruptcy Code, but they are not granted the unilateral ability
to walk away from the bankruptcy with the assets of the estate—leaving a business that
cannot be reorganized. This has a direct impact on jobs. The most obvious case in
point is LTV Steel, which would have shut down immediately on filing if the creditor
claiming it had "purchased" LTV's accounts had been allowed to remove the corporation's
most liquid assets. Currently, several airlines have securitized their receivables. The
result: They could be cut off from their principal sources of cash if they filed for
bankruptcy and §912 were law. We could face the spectacle of the government giving
the airlines billions in tax dollars, only to have substantial assets of the business
removed from the company in "off-book" transactions for which no one would be held
accountable.

2. Creating an unregulated safe harbor for asset securitization has ominous
implications for the securities markets. In the wake of the Enron debacle, when
regulators, former employees and the investing public are calling for strengthened
reporting requirements, §912 moves in the opposite direction. It would give safe
harbor protection to transactions that facilitate the undisclosed reallocation of risk.
While Article 9 security interests and real estate mortgages are always public,
parties dealing with a business with securitized assets have no similar public
notification that assets that appear to belong to the debtor have been, in fact,
removed from the bankruptcy estate altogether. By its terms, §912 appears to
exclude assets from the estate that would otherwise be treated as estate assets subject
to only an unperfected security interest.

3. Enron demonstrates that the "off-book" transactions of asset securitization can
mislead other creditors, investors, auditors and the public. Enron already has
disclosed that it moved at least $2.4 billion in assets off its balance sheet but
retained the risks associated with those assets through swap agreements. The employees,
creditors, pension funds and other investors in Enron were forced to bear risks that
were not disclosed. If the current proposal were in place, the bankruptcy court would
be denied the opportunity to make certain these kinds of transactions were not disguised
loans and to allocate the risks approximately.

Under current law, if a company in bankruptcy pays its workers and buys supplies
to produce new goods, those goods belong to all the creditors collectively as property
of the estate. When they are sold, the accounts receivable enrich the estate and give
the business a chance to survive. Section 912 appears to alter this result.
Anything the business produces that creates an account receivable would be swallowed by
the party to the asset securitization who had "purchased" all the accounts, leaving
the estate with nothing to pay the employees who did the work, the trade creditors
who furnished the raw materials, and the other creditors who hoped to profit from the
going-concern value of the business. Under those circumstances, it is fair to say
that no business could survive. If this is not the intent of the proponents, then
the whole section should be dropped or sharply amended.

The Border Between Sales and Loans

The question presented by §912 of H.R. 333 is how to patrol the border
between a loan and a true sale—between what a company owns and what it owes. Under
current law, that determination is based on who bears the risks and who receives the
benefits of owning the asset. Property that has been sold is not part of the
bankruptcy estate. Property that is collateral for a loan remains property of the
estate, albeit subject to the creditor's lien. Section 912 would virtually
eliminate this distinction from the law, so long as a private rating agency deemed
at least one tranche of the securities issued under the securitization as "investment
grade." Having this critical distinction turn on an assessment by a private rating
agency is wholly inadequate:

1. Section 912 confers its extraordinary favors only upon transactions rated by
private rating agencies, delegating to those rating agencies an extraordinary and very
valuable power. There is no reason to suppose that the rating agencies will not
consider their own self-interest in exercising that power. Rating agencies have virtually
no accountability to anyone but their shareholders.

2. Private rating agencies rely, in turn, primarily on letters from attorneys,
who are serving the parties to the transaction, to make legal proclamations about what
is and what is not a "true sale." This bill provides no regulation or oversight of
the agencies' own self-interest in the transactions. The agencies will not function as
insurers, paying their own money if it turns out that the "selling" party was left
with the risks commensurate with a loan, so that form of market discipline is
missing. Instead, the agencies collect their fees whether the parties subsequently
succeed or fail, pushing losses onto thousands of unsuspecting creditors and investors.

3. Legal opinions from the parties' own lawyers provide inadequate protection. The
lawyers signing these letters are paid by the parties; they do not represent the
interests of all the other creditors and investors affected by the characterization of
the transaction—including the employees, retirees, pension funds, trade creditors and
tort victims. Moreover, once the law is amended to eliminate any review standards,
the opinion letter will simply reflect the state of the law. If the law has no
standards, then the attorneys can truthfully say that no transaction fails those
standards.

4. Section 912 specifically prohibits consideration of virtually all of the
evidence that tells us today whether a transaction is a loan rather than a sale.
Whether a debtor remains liable if the value of the asset is not as great as the
amount advanced by the buyer/lender, whether the debtor continues to administer the
asset, how the transaction is treated for accounting purposes, and how the transaction
is treated for tax purposes—these factors are all relevant to whether the transaction
is a sale or a loan. Yet the statute specifically prohibits consideration of these
factors to determine whether it is a loan or a sale. In other words, the statute
is designed to ratify an asset securitization even if every economic and legal standard
otherwise applicable would hold it to be a loan—and, accordingly, property of the
estate subject to creditor, investor and judicial oversight.

Fraudulent Conveyance Law Cannot Police Fraud in this Area

Section 912 does provide that a transaction will continue to be subject, after
a fashion, to application of fraudulent conveyance law under 11 U.S.C.
§548(a). This provision will do nothing, however, to protect investors and other
creditors from being deceived by the mischaracterized transactions. Fraudulent conveyance
law affords insufficient protection against a secured loan transaction disguised as a sale
for purposes of helping lenders escape the bankruptcy laws:

1. Section 912 would erase the "intent to hinder, delay or defraud" standard
of current fraudulent conveyance law. Under current law, an action taken with no
intent other than to avoid the consequences of bankruptcy may be treated by a court
as fraudulent under the "intent to hinder, delay or defraud" standard. But if federal
law says that asset securitization, regardless of deliberate intent, is legally
permissible, then any protection offered by fraudulent conveyance law would be
overridden. According to its sponsors, the financial device is always undertaken to
avoid bankruptcy; most courts probably would then read §912 as Congressional
authorization of these devices without regard to the intent of the parties.

2. Fraudulent conveyance law is the wrong vehicle to police the difference between
a loan and a sale. Loans from a lender to a debtor pass the "reasonably equivalent
value" tests of fraudulent conveyance law; the debtor receives consideration and, if
the loan is secured, the lender receives a security interest in collateral. Fraudulent
conveyance law is designed to stop gifts or other transfers for too little value when
a debtor is insolvent. It does nothing to police the boundary between a sale and
a loan. The problem—disguising a loan so that it will be treated as a sale under
bankruptcy law—is not solved with the "reasonably equivalent value" tests of fraudulent
conveyance law.

3. Section 912 even limits the application of fraudulent conveyance law to
§548(a), which has a one-year statute of limitations. This means that state
fraudulent conveyance laws, which come into the Bankruptcy Code through §544, will
be deemed inapplicable. State statutes of limitation are typically four to six years.
Under §912, any "look back" would be limited to one year. This effectively means
that one year after a securitization, there would be no legal oversight of any kind.

Protecting the Securitization Market

The result of this proposal will be to render impossible untold corporate
reorganizations that would save jobs and would give most creditors a much higher return
from a company in financial trouble. Instead, if §912 becomes law, those companies
will liquidate, leaving little for creditors and nothing for stockholders and employees.
It will also sharply reduce the public disclosure essential for a healthy marketplace.

The advocates for this bill repeatedly point out that asset securitization is a
rapidly growing, multi-trillion dollar business. If so, it does not need help to
survive, particularly if that help comes at the expense of smaller creditors,
investors, jobs and increased business failures. In any case, as the Enron
experience dramatically illustrates, the law in this area should not be changed without
much greater investigation into current business practices and a thorough and thoughtful
consideration of the implications of such change.

Yours truly,

Allan Axelrod

Professor Emeritus

Rutgers School of Law, Newark

The State University of New Jersey



Larry T. Bates

Associate Professor of Law

Baylor University School of Law



Susan Block-Lieb

Professor of Law

Fordham University School of Law



Jean Braucher

Roger Henderson Professor of Law

University of Arizona



Mark E. Budnitz

Professor of Law

Georgia State University College of Law

Andrea Coles Bjerre

Visiting Assistant Professor of Law

University of Oregon School of Law



Susan L. DeJarnatt

Associate Professor

Temple University School of Law



Wilson Freyermuth

Associate Professor of Law

University of Missouri-Columbia



Karen M. Gebbia-Pinetti

Professor of Law

University of Hawaii School of Law



Nicholas Georgakopoulos

Professor of Law

Indiana University School of Law

University of Connecticut School of Law



Joann Henderson

Professor of Law

University of Idaho College of Law



Edward Janger

Associate Professor of Law

Brooklyn Law School



Allen R. Kamp

Professor of Law

John Marshall Law School



Kenneth C. Kettering

Associate Professor

New York Law School



Kenneth Klee

Acting Professor of Law

University of California at Los Angeles

John W. Larson

Associate Dean for Academic Affairs

Florida State University College of Law



Robert Lawless

Earl. F. Nelson Professor of Law

University of Missouri



Jonathan C. Lipson

Assistant Professor of Law

University of Baltimore School of Law



Lynn LoPucki

Security Pacific Bank Professor of Law

University of California at Los Angeles



Lois R. Lupica

Professor of Law

University of Maine School of Law



Bruce A. Markell

Doris. S. & Theodore B. Lee

Professor of Law

University of Nevada Las Vegas

Juliet M. Moringiello

Associate Professor

Widener University School of Law



Larry Ponoroff

Vice Dean & Mitchell Franklin Professor of Privatization & Commercial Law

Tulane University School of Law



Nancy B. Rapaport

Dean & Professor of Law

University of Houston Law Center



Charles Schafer

Professor of Law

University of Baltimore School of Law



Charles J. Senger

Professor of Law

Thomas M. Cooley Law School



Charles J. Tabb

Alice C. Campbell Professor of Law

University of Illinois at Urbana-Champaign

William T. Vukowich

Professor of Law

Georgetown University



Thomas M. Ward

Professor of Law

University of Maine School of Law



Elizabeth Warren

Leo Gottlieb Professor of Law

Harvard Law School



Donald J. Weidner

Dean & Professor

College of Law, Florida State University



Jay Lawrence Westbrook

Benno Schmidt Chair of Law

University of Texas



William C. Whitford

Emeritus Professor of Law

Wisconsin Law School



Jane Kaufman Winn

Professor of Law

Dedman Law School

Southern Methodist University

University of California-Berkeley



William Woodward

I. Herman Stern Professor of Law

Temple University School of Law.

Editor's Note: To read the reply of the Bond Market Association to this letter,
as well as more commentary on §912, visit ABI's home page at www.abiworld.org.