Eleventh Circuit Allows Termination of Retiree Benefits in a Chapter 11 Liquidation

The Eleventh Circuit broadly interpreted the words “maintain” and “reorganization” in Section 1114 to ensure that companies of all types, including coal producers, can terminate retiree health benefits, even if the company sells its assets under Section 363 and converts from chapter 11 to chapter 7.

The appeals court added a caveat: To terminate or modify retiree benefits following a sale of assets in chapter 11, the business must continue to operate.

The decision means that a liquidation in chapter 11 allows the buyer to compel the rejection of union contracts and the termination of retiree health benefits. Prof. Richard Squire, the Alpin J. Cameron Chair in Law at Fordham University School of Law, told ABI that the “decision . . . is both logically sound and consistent with the purpose of chapter 11, which is to rehabilitate insolvent yet commercially viable businesses.”

In his message to ABI, Prof. Squire said that the Eleventh Circuit “decided that the essence of the statutory term ‘reorganization’ is the continued operation of the business, regardless of whether its ownership changes through a sale (a liquidation) or a debt-for-equity exchange pursuant to a negotiated plan (a traditional reorganization).” 

The Sale in Chapter 11

The appeal arose in the attempted reorganization of coal producer Walter Energy Inc. The company sold its major assets to the senior secured lenders in a so-called credit bid for $1.15 billion. The buyers also assumed $115 million in liabilities, funded wind-down trusts and supplied some cash.

Alongside the sale under Section 363, the debtor sought authority to terminate collective bargaining agreements under Section 1113 and health care benefits to retirees under Section 1114. The purchaser said it would only buy the assets, continue some of the business and preserve some jobs if it were not bound by union contracts and if the bankruptcy court cut off obligations related to retiree health benefits.

The union and retiree health insurance funds opposed, but Bankruptcy Judge Tamara O. Mitchell of Birmingham, Ala., approved the sale. She also rejected labor contracts and ruled under Section 1114 that the buyer would not be liable for retiree health costs. As a result, the federal government became liable for retiree health costs under the 1992 federal Coal Act.

The district court upheld the sale and the termination of the buyer’s statutory obligation to pay retiree health benefits under the Coal Act. The health insurance funds appealed to the Eleventh Circuit. While the appeal was pending, the company converted the case to chapter 7.

The Eleventh Circuit Opinion

The 74-page opinion on December 27 by Circuit Judge Jill Pryor contains a detailed history of the succession of federal legislation culminating in the 1992 Coal Act. She explained how the law converted a contractual obligation to provide retiree health benefits into a statutory obligation. The Coal Act also made successors and purchasers liable to pay retiree health benefits.

Judge Pryor said the case raised “very important and complex issues,” requiring a “nuanced analysis” of Section 1114 and the Coal Act. Turning the issues on appeal, she began with a lengthy analysis of the federal Anti-Injunction Act, which deprives a court of jurisdiction to enjoin the collection of a tax.

The Anti-Injunction Act

The health care funds argued that health care costs were taxes on the coal companies that the bankruptcy court had no jurisdiction to cut off. Judge Pryor wrote a detailed analysis of Supreme Court cases where the high court seems to have developed flexible, results-oriented standards for deciding whether an exaction is or is not a tax for the purpose of the Anti-Injunction Act.

Suffice it to say, Judge Pryor concluded after long analysis that the obligation to pay retiree health benefits is not a tax, thus giving the bankruptcy court jurisdiction to invoke Section 1114.

The Meaning of the Word “Maintained”

In Section 1114(a), “retiree benefits” means payments to provide medical care under a program “maintained” by the debtor before bankruptcy. The health care funds argued that the obligation to pay for health care did not fall within the definition of “retiree benefits” because the obligation was imposed by statute, not “maintained” by the debtor.

Although she said it was a “close question,” Judge Pryor again concluded, after lengthy analysis, that the debtor “maintained” the health care programs because predecessors had agreed to provide health insurance in prior collective bargaining agreements.

The Statutory Mandate

From several angles of attack, the health care funds contended that the adoption of the Coal Act, four years after the enactment of Section 1114, precluded the bankruptcy court from overriding the Coat Act’s statutory mandate that successors continue providing retiree health benefits.

Judge Pryor found “nothing” in the Coal Act “indicating that Congress intended to bar bankruptcy courts from exercising authority under Section 1114 to modify or terminate a coal company’s obligation under the Coal Act to pay premiums to the Funds.” She buttressed her conclusion by the notion that “repeal or amendment by implication is ‘not favored’ . . . .”

Judge Pryor found “no clear and manifest indication that Congress intended the Coal Act, the later statute, to limit the scope of Section 1114.” She also ruled that Section 1114 remains viable in the coal context because a court must construe both statutes to be effective, “rather than construing the Coal Act as implicitly amending and narrowing the definition of retiree benefits in Section 1114.”

Necessary for Reorganization

Section 1114(g)(3) allows the bankruptcy court to modify or terminate retiree benefits after finding, among other things, that the relief is “necessary to permit the reorganization of the debtor.”

The health care funds argued that the debtor could not employ Section 1114 because the asset sale was not a “reorganization.”

Judge Pryor rejected the argument, holding that “reorganization” refers “to all types of debt adjustment under chapter 11, including a sale of assets on a going-concern basis.”

Although an asset sale in chapter 11 under Section 363 is sometimes colloquially referred to as a liquidation, Judge Pryor said the “transaction is different in kind from a chapter 7 liquidation.” In chapter 7, she said, the trustee typically shuts down the business and sells the assets piecemeal.

In chapter 11, on the other hand, she said that the assets are liquidated, “but not in the sense that its business is shut down,” quoting Prof. Squire.

Under Section 1114(g)(3), Judge Pryor then turned to the question of whether termination of retiree benefits was “necessary to permit the reorganization of the debtor” when the company was selling its assets from the outset. She framed the question as whether “reorganization” in the subsection “refers only to classic reorganizations or more broadly to any proceeding under chapter 11.”

Putting some limits on Section 1114, Judge Pryor said that in a “reorganization, at a minimum, the business concern must continue to operate.” A chapter 11 liquidation, she said, “could qualify” where the debtor sells substantially all of its assets as a going concern, “because the debtor’s business continues operating as a going concern, albeit under new ownership.”

Judge Pryor said that other courts considering the same issue in chapter 11 liquidations have permitted the debtors to modify retiree health care benefits.

Judge Pryor said that the judges on the circuit panel made the decision “not as policy makers . . . . If changes in these laws are desirable from a policy standpoint, it is up to Congress to make them.”