By: Donald L Swanson
11 U.S.C. § 1191(c)(2) provides (emphasis added):
- “(c) . . . the condition that a plan be fair and equitable . . . includes . . . (2) . . . all of the projected disposable income of the debtor to be received in the 3-year period, or such longer period not to exceed 5 years as the court may fix, . . . will be applied to make payments under the plan.”
There is little-to-no guidance in the Bankruptcy Code on what “as the court may fix” might mean. So, that meaning is left to the courts to decide.
Two Contrasting Opinions
We now have two contrasting opinions on the subject: (i) the first confirms a 3-year plan, and (ii) the second rejects a 3-year plan.
Both contrasting opinions agree on this starting point: the language of § 1191(c)(2),
- creates a baseline (or default) plan term of 3-years; and
- leaves to the sound discretion of the bankruptcy courts the authority to fix the plan term.
What follows is a summary of the analysis and operative facts in each.
3-Year Plan Approved
In re Urgent Care Physicians, Ltd., Case No. 21-24000 in Eastern Wisconsin Bankruptcy Court (issued on 12/20/2021, Doc. 107), approves a 3-year plan and provides the following analysis.
The purpose of Subchapter V is to “streamline the bankruptcy process” for small business reorganizations:
- Small businesses—typically family-owned businesses, startups, and other entrepreneurial ventures—“form the backbone of the American economy” but tend to have limited longevity (20 % of small businesses survive the first year, by the fifth year only 50% are still in business, and by the tenth year only one-third survive);
- Allowing small business debtors to reorganize and remain in business benefits the debtor and debtor’s employees, suppliers, customers, and others who rely on debtor’s business; and
- So, a 3-year plan term is more reasonable (as a default) than a 5-year term, absent unusual circumstances.
The 3-year plan in this case is fair and equitable because Debtor:
- provides outpatient health care for urgent needs;
- has deferred partial salary payments to its insiders;
- has deferred some x-ray equipment payments;
- has committed to paying at least its projected disposable income; and
- has put additional money into this 3-year plan beyond what the Bankruptcy Code requires.
Imposing a 5-year term in this case would jeopardize the availability of x-ray equipment by further delaying repayments. And it would jeopardize employee retention through:
- further deferring repayments and full salary restoration to key staff; and
- keeping a lower-than-desirable ceiling on employee rewards for an additional 24 months.
Forcing Debtor to assume such business-jeopardizing risks is not in the interest of the debtor’s customers/patients. A longer plan term would disproportionately harm the debtor by forcing it to accrue additional unpaid expenses and potentially emerge from its reorganization saddled with more debt.
While at first blush the simple math of an extended plan term might seem to generate higher payments to unsecured creditors, the inherent risks of that extension could defeat the unsecured creditors’ desire for greater recovery.
The 3-year term here is fair and equitable, as it properly balances the risks and rewards for both the debtor and its creditors.
3-Year Plan Rejected
In re Trinity Family Practice & Urgent Care PLLC, Case No. 23-70068 in the Western Texas Bankruptcy Court (issued 5/24/2024, Doc. 98), rejects a 3-year plan and provides the following analysis.
The Court looks at the totality of the circumstances and applies the following five factors to fix the plan term:
- Capital reserves or capital expenditures during the plan term;
- Reasonableness of projected income and expenses as compared to historical operations;
- Salary and/or other payments to insiders during the plan term;
- Risks and consequences of a longer plan term; and
- Any other unique or extraordinary facts in the case.
Related rules include:
- debtor has the burden of proving how each factor supports the proposed plan term;
- the five factors are not exclusive; and
- no factor alone is dispositive or controlling.
Here’s how the five factors apply in this case.
–Capital Reserves or Expenditures.
Debtor’s plan projections include a “miscellaneous expense” line item of $31,816.05 to address unanticipated expenses—this amount is excessive because plan distributions to unsecured creditors total only $38,761.29.
Debtor offers no evidence of how the reserve was calculated, whether Debtor historically had a capital reserve, or how the reserve would be used. This weighs against a 3-year plan being “fair and equitable.”
–Reasonableness of Income and Expenses
Debtor has been in business since 2018, yet offers no evidence of historical income and expenses.
Debtor offers no evidence of how it calculates projected income and expenses during the 3-year plan term.
Debtor testifies that it operates on a lean budget. But plan projections increase expenses with no supporting testimony. Such increases are questionable in light of the plan’s projected decreases in income.
Accordingly, the Court is left to guess on the basis for plan projections. This weighs against a 3-year plan being “fair and equitable.”
–Salary and/or other Payments to Insiders
Debtor’s principal received $3,376.22 per month in the year before bankruptcy filing.
Over the 3-years of the Plan, such salary increases by more than 100%: to $7,491.08.
Debtor’s principal testifies that he became licensed as a nurse practitioner after the bankruptcy filing and that his new license—combined with his increased involvement—warrants the elevated salary. But Debtor offers no evidence that such elevated compensation is at a fair market rate.
Such significant increase in insider pay weighs against a 3-year plan being “fair and equitable,”
–Risks and Consequences of a Longer Term
Risks and consequences of a longer plan term must balance the interests of debtor and debtor’s employees, customers and creditors against interests of creditors.
- For example, if a debtor’s employees have agreed to take pay cuts for three years, that weighs against a longer plan term.
But such risks and consequences cannot be based on conjecture and speculation. Debtor in this case offers no evidence of actual, substantiated risks or consequences that make business failure more likely if a 3-year plan term is not approved.
Under this factor, a creditor argues that a 5-year plan is needed—because that would increase the total payments to the unsecured creditors.
- But this should not be a sole deciding factor—because it would always favor creditors.
This factor weighs against a 3-year plan being “fair and equitable.”
–Any other Unique or Extraordinary Facts
There is no evidence or argument as to any unique or extraordinary facts or circumstances. So, this factor is not applicable,
–Court’s Conclusion
Based on the totality of circumstances, Debtor fails to show by a preponderance of the evidence that the proposed 3-year plan is fair and equitable.
Neither is the evidence sufficient for the Court to determine whether it should fix a plan term longer than 3-years.
Accordingly, the Court denies confirmation without prejudice, allowing Debtor to file an amended plan.
Conclusion
Here are two observations about the contrasting opinions summarized above:
- Both opinions have a similar view of the governing law (i.e., 3-years is a default term, and the court has broad discretion on the length of term to “fix”); and
- Contrasting results in the two opinions are based on significant differences of the facts and evidence in each case–not on substantial differences in the governing law.
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