Another Court Strikes Down Higher U.S. Trustee Fees in Some Cases

The increase in quarterly fees payable to the U.S. Trustee Program is unconstitutional if applied to chapter 11 debtors with plans confirmed before October 26, 2017, when the increase became effective, according to Bankruptcy Judge Ronald B. King of San Antonio, Texas.

The U.S. Trustee Program is intended to be self-funding, but a recent increase in fees could make chapter 11 too expensive for some mid-market companies and cause some debtors to default on confirmed plans. (The inherent expense of chapter 11 already makes some companies forgo bankruptcy reorganization.)

The new fee amounts to a 1% tax on a debtor’s disbursements. Since “disbursements” is interpreted so broadly, the fee in substance is a 1% tax on revenue, given that everything a company takes in will be disbursed one way or another.

Because the fee is essentially a flat tax unrelated to a debtor’s cash flow, some companies simply cannot afford the higher fee, especially those with high revenue and low margins.

With the fee capped at $250,000 per quarter, the largest companies are immune from the increase, putting the onus of the increase on smaller companies.

The February 8 opinion by Judge King is an effort at ameliorating the crisis for some debtors until Congress fixes the mess it unthinkingly made.

The Amended Statute

To ensure that taxpayers do not finance the U.S. Trustee Program, Congress revised the U.S. Trustee fees as part of the Bankruptcy Judgeship Act of 2017. Codified at 27 U.S.C. § 1930(a)(6)(B), the fees are raised whenever the balance in the U.S. Trustee System Fund falls below $200 million at the end of any fiscal year through 2022.

Since the fund balance was the threshold, the fees increased as of Oct. 27, 2017, when the amendment became effective. The section now provides that “the quarterly fee payable for a quarter in which disbursements equal or exceed $1,000,000 shall be the lesser of 1 percent of such disbursements or $250,000.”

In other words, if the debtor disburses $1 million a quarter, the quarterly fee is $10,000, or $40,000 a year. Under the prior fee schedule, the quarterly fee would have been $4,785 if disbursements were $999,999 in the quarter, or $6,500 if the quarterly disbursements were $1 million but less than $2 million.

If quarterly disbursements are $25 million or more, the fee is now $250,000 a quarter. At $25 million under the old schedule, the fee would have been $20,000 a quarter. For a company with $25 million in quarterly disbursements, the fee rose 1,250%

The word “disbursements” is not defined in the statute.

The Case at Bar

In the case before Judge King, the debtor had confirmed a plan in April 2017, before the amendment was adopted. In each of the first three quarters of 2018, the debtor’s disbursements were approximately $65 million. For each of the quarters, the U.S. Trustee asserted that the fee should be $250,000.

Under the fee schedule in effect when the petition was filed and when the plan was confirmed, the quarterly fee would have been $30,000. In other words, the increase was 833%, Judge King said.

The confirmed debtor was operating more than 100 restaurants around the country. If the debtor were obligated to pay the higher fees, Judge King said that priority claimants “would be at risk of nonpayment” and “the plan’s feasibility would be compromised.”

The Debtor’s First Arguments

Given that “disbursements” is not defined in Section 1930, the debtor contended that the fee should only be applied to payments made to creditors under the plan. If that were true, the quarterly payment would be $4,875, Judge King said.

Judge King said that the fees sought by the U.S. Trustee were “excessive and [in] certain situations may require a limitation on what constitutes a disbursement.” However, Judge King agreed with a majority of courts interpreting “disbursements to mean all transfers from the estate, including payments in the ordinary course of business.”

The debtor urged Judge King to follow Chief Bankruptcy Judge Catherine J. Furay of Madison, Wis., and her decision in In re Cranberry Growers Cooperative, 592 B.R. 325 (Bankr. W.D. Wis. 2018).

In Cranberry Growers, Judge Furay held that “disbursements” does not include payments under a revolving credit where the lender immediately readvances funds that were swept the prior day to pay down the loan. To read ABI’s discussion of Cranberry Growers, click here. The decision is on direct appeal to the Seventh Circuit.

Judge King declined to follow Cranberry Growers, because “a narrow interpretation of disbursements that applies in the case of a revolving line of credit does not apply in this case.”

Constitutional Arguments Prevail

The debtor advanced three more arguments: the Uniformity and Due Process Clauses of the U.S. Constitution, and retroactivity. The debtor won on all counts.

Previously in the history of Section 1930, fees for the U.S. Trustee Program did not apply in the two districts that still employ Bankruptcy Administrators rather than U.S. Trustees. The Ninth Circuit therefore held in St. Angelo v. Victoria Farms Inc., 38 F.3d 1525 (9th Cir. 1994), that a prior iteration of Section 1930 violated the Uniformity Clause because U.S. Trustee fees were not being charged in the two districts with Bankruptcy Administrators.

Following St. Angelo, Judge King held that the higher fees were unconstitutional until the increase was applied to administrator districts in October 2018. He therefore concluded that the debtor was only liable for $30,000 in fees for the first three quarters of 2018.

The Uniformity Clause would not relieve the debtor of the obligation for higher fees beginning in October 2018. That’s where retroactivity comes into play.

Judge King recited the presumption against retroactivity. “Nothing in the statute or legislative history indicates that Congress intended the amendment to apply retroactively,” he said. Although the amendment applies to disbursements made after Jan. 1, 2018, he said the statute “does not specify its application to pending cases.”

Therefore, Judge King held that the higher fees “should not be applied to pending cases with a confirmed plan when the statute became effective on Oct. 26, 2017.”

But he wasn’t through. Judge King also found a violation of the Due Process Clause, because imposing “the fees retroactively in this case did not provide the Reorganized Debtors with sufficient notice of the increased fees prior to filing chapter 11 or confirmation of a plan.”

Some of the language in the concluding pages of the opinion suggests that Judge King’s analysis might also apply to chapter 11 filings before Oct. 26, 2017, even if confirmation did not occur until after the higher rates became effective. In that regard, Judge King said that knowledge of the higher fees might propel debtors into adopting prepackaged plans or restructuring debts outside of bankruptcy “to avoid the quarterly fees.”

For the first three quarters of 2018, Judge King ruled that the debtor was only liable for the $30,000 quarterly maximum under the “old” schedule.

(Any opinions are those of the writer, not ABI.)