United States: Fifth Circuit Calls Into Question The Allowance Of Make-Whole Payments And Post-Petition Interest At Contract (Default) Rate

On January 17, 2019, the Fifth Circuit Court of Appeals (Appellate Court) overruled the decision of the United States Bankruptcy Court for the Southern District of Texas (Bankruptcy Court) in In re Ultra Petroleum, calling into question the payment of make-whole premiums and post-petition default interest in chapter 11 cases in the Fifth Circuit.1 Significantly, the Fifth Circuit became the first circuit-level court to hold that make-whole premiums are the economic equivalent of interest, and thus, may not be allowed pursuant to section 502(b)(2) of title 11 of the US Bankruptcy Code (Bankruptcy Code).2 Additionally, the Appellate Court analyzed the appropriate rate of post-petition interest required (or permitted) under the Bankruptcy Code. Finally, the Appellate Court's decision makes it easier for a debtor to treat a creditor's claim as unimpaired under the Bankruptcy Code and thereby deny the creditor an opportunity to vote on the plan, by holding that a portion of the claim that is disallowed under the Bankruptcy Code need not be paid under the plan in order for such creditor's claim to remain unimpaired.


The Appellate Court considered these issues on direct appeal from the Bankruptcy Court.3 Ultra Petroleum Corporation and its affiliated debtors (collectively, the Debtors) filed for chapter 11 bankruptcy protection on September 21, 2017. During the course of their bankruptcy, the Debtors became solvent. The Debtors proposed a joint plan of reorganization (Plan) which provided for payment in full of all unsecured claims and recovery for equity holders. The Plan classified the claims of holders of notes (Noteholders) issued by one of the Debtors under a note agreement and claims under a revolving credit facility (collectively, the Class 4 Creditors, or the Appellees) together as "unimpaired" pursuant to section 1124(1)of the Bankruptcy Code on the basis that the Class 4 Creditors would receive payment in cash for the outstanding principal amount, pre-petition interest at the contractual rate, and post-petition interest at the federal judgment rate as provided in section 726(a)(5) of the Bankruptcy Code. As such, the Noteholders were not entitled to vote on the Plan.

The Class 4 Creditors objected and asserted that in order for their claims to be "unimpaired" under the Plan the Debtors were required to pay the Noteholders' make-whole claims and post-petition interest on the Class 4 Creditors' claims at the contractual default rate. The parties entered into a stipulation which permitted the Debtors' plan to be confirmed and preserved the issue of the amount the Noteholders were entitled to receive in order to be deemed "unimpaired." After confirming the Debtors' Plan, the Bankruptcy Court decided the issue finding the Noteholders were entitled to the full $201 million make-whole claims (Make-Whole Amount) and the Class 4 Creditors were entitled post-petition interest at the contract default rate in the aggregate amount of $186 million. 


On appeal, the Appellate Court first considered whether a creditor's claim is impaired by a reorganization plan where the plan proposes to pay the amount of the claim that is allowed under the Bankruptcy Code, but does not pay the portion of the claim that the Bankruptcy Code reduces or disallows. 

The Appellate Court closely examined the language of § 1124(1)4 and determined that in order for a claim to be impaired, the plan (and not the Bankruptcy Code) must alter the claim. In other words, if a provision of the Bankruptcy Code limits or disallows a claim, the remaining amount of the claim, after giving effect to such limitation or disallowance, represents the creditor's claim for purposes of determining whether the plan alters the legal, equitable and contractual rights with respect to such claim. It does not matter whether the creditor would have a different claim outside of bankruptcy. As an example, the Appellate Court cited In re PPI Enterprises (U.S.) Inc., 324 F.3d 197, 201–02 (3d Cir. 2003), involving a landlord's rejection damage claim that was subject to the "cap" under section 502(b)(6).  The Third Circuit held that the landlord's claim was not impaired as a result of the limitations under section 502(b)(6) because the plan "merely reflected the Code's disallowance." Thus, a creditor is not impaired by a plan if the plan incorporates the Bankruptcy Code's disallowance provisions.

Operating under that holding, the Appellate Court next turned to the Bankruptcy Code's effect on the allowance of the Make-Whole Amount and post-petition interest at the contract default rate—an analysis the Bankruptcy Court never reached because it found that the Plan itself impaired the Class 4 Creditors. With respect to the Make-Whole Amount, the Appellate Court turned to section 502(b)(2), which disallows "unmatured interest" as of the petition date. If the Make-Whole Amount were deemed to be "unmatured interest" disallowed by section 502(b)(2) of the Bankruptcy Code, the Noteholders' claims would be unimpaired, despite not receiving the Make-Whole Amount. The Fifth Circuit held that the Make-Whole Amount was disallowed under section 502(b)(2), relying on three bases: (1) it was the economic equivalent of interest, (2) such interest was unmatured as of the petition date, and (3) even if it were viewed as liquidated damages, such category was not mutually exclusive of unmatured interest. 

However, the Appellate Court found that the Noteholders could recover the Make-Whole Amount if a pre-Bankruptcy Code "solvent-debtor exception" survived Congress's enactment of section 502(b)(2). The "solvent-debtor" exception originated under English bankruptcy law and gave creditors of a solvent debtor the "right to interest whenever there is a contract for it."5 The Appellate Court remanded the issue to the Bankruptcy Court to decide.

The Appellate Court next turned to the allowance of post-petition interest at the contract default rate. The Appellate Court noted that both the Debtors and the Class 4 Creditors agreed that the Class 4 Creditors were entitled to some post-petition interest. Such entitlement to post-petition interest is based on courts' interpretation of the legislative history of former section 1124(3) of the Bankruptcy Code, which Congress repealed after one bankruptcy court permitted a solvent debtor to pay the allowed claims of unsecured creditors in full, excluding post-petition interest, without risking impairment.6

The Fifth Circuit then set out to determine the amount of post-petition interest allowed under the Bankruptcy Code. In doing so, the Appellate Court analyzed section 726(a)(5), the only Bankruptcy Code provision setting a rate for post-petition interest on awards. The Appellate Court held that section 726(a)(5), as it is incorporated in chapter 11 cases via the "best interest of creditors" test, applies only to impaired creditors (requiring that, under a plan, they receive not less than the amount they would receive if the debtor were liquidated under chapter 7, including post-petition interest at "the legal rate"). Therefore, section 726(a)(5) did not apply to the Class 4 Creditors if unimpaired.

The Appellate Court next looked outside the Bankruptcy Code for any general rule which might govern the amount of post-petition interest. The Appellate Court distinguished post-petition interest as part of a claim from post-petition interest on a claim. While English bankruptcy law provided for the former to accrue at the contract rate during a solvent debtor's bankruptcy, the Appellate Court noted that the modern concept of post-petition interest on a claim has no analogy under pre-Code law. Proceeding from there, the Appellate Court laid out two potential paths for determining the post-petition interest amount:  the general post-judgment interest statute (28 U.S.C. § 1961) and equity. The Appellate Court remanded the issue to the Bankruptcy Court to decide.

On January 31, 2019, the Appellees jointly petitioned for rehearing en banc asserting the Fifth Circuit panel's opinion will, if not rectified, "upend existing financial transactions and chill the willingness of lenders to provide future capital." Moreover, the Appellees assert "[t]he Opinion has the potential to wreak havoc in the lending market."

As to the merits, the Appellees argue that:

  • the panel's decision that a make-whole is the "economic equivalent of interest" disallowed under section 502(b)(2) contravenes prior Fifth Circuit decisions holding that make-wholes are not interest or its equivalent; and
  • the holding that a creditor who is not paid its contractual interest by a solvent debtor is nonetheless unimpaired misconstrues both Congressional intent and the holding in In re PPI Enterprises.


1 Ultra Petroleum Corp. v. Ad Hoc Comm. of Unsecured Creditors of Ultra Resources, Inc. (In re Ultra Petroleum Corp.), 913 F.3d 533, 2019 WL 237365 (5th Cir. Jan. 17, 2019).

2 It is important to note that the claims in Ultra are unsecured, and the Appellate Court was not required to determine whether the Make-Whole Amount is payable under section 506(b) (as part of an oversecured creditor's claim).

3 In re Ultra Petroleum Corp., 575 B.R. 361, 370–71 (Bankr. S.D. Tex. 2017).

Section 1124(1) provides:

Except as provided in section 1123(a)(4) of this title, a class of claims or interests is impaired under a plan unless, with respect to each claim or interest of such class, the plan {...} leaves unaltered the legal, equitable, and contractual rights to which such claim or interest entitles the holder of such claim or interest.

4 11 U.S.C § 1124(1) (emphasis added).

5 Ultra Petroleum,2019 WL 237365, at *11(citing 1 William Cooke, the Bankruptcy Laws 198 (6th ed. 1812)).

6 Id.  (citing PPI, 324 F.3d at 205—06) (internal citations omitted).

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