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Bankruptcy Reform 2005:
Our Top 10 List of Changes

The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (the “Reform Act”) was signed into law on April 20, 2005. It will change many provisions of the Bankruptcy Code and other related statutes. With certain limited exceptions (not applicable to the provisions listed below), the changes will apply to bankruptcy petitions filed on or after October 17, 2005. Cases commenced before that date will continue to be governed by the existing statute, causing some professionals to predict a filing boom in September and early October.

The following changes should have the biggest impact on Chapter 11 cases:

1. Debtors’ Control Diminished—Several Reform Act provisions will take some control of the case away from debtors. Most notable are limits on the court’s ability to extend (a) the time for a debtor to assume or reject commercial real estate leases and (b) exclusivity:

• Section 365(d)(4) is amended to extend—from 60 days to 120 days—the time within which debtors must assume or reject unexpired real property leases. But that deadline can only be extended once for an additional 90 days unless the landlord consents to further extension. The current statute gives debtors 60 days, but that deadline could be—and routinely was—extended until the end of the Chapter 11 process. As a partial counterbalance, the Reform Act caps the administrative expense claim a landlord may have if the debtor rejects an assumed lease at two years’ rent. Large-scale lessees, such as retailers, will be the debtors most negatively impacted by this change since much of their reorganization value comes from under-market leases.
  
  
• Section 1121(d) is amended to include “hard caps” on exclusivity. In cases that do not qualify as “small business cases,” the 120-day period within which file a plan and the 180-day solicitation period cannot be extended to dates more than 18 months and 20 months, respectively, after the petition date. Currently, debtors can and do receive multiple exclusivity extensions, sometimes retaining control of the plan process for years.

2. New Rules for Official Committees—The Reform Act adds a section 1102(b)(3) that will require official committees to provide their constituents with “access to information.” Committees will also be required to “solicit and receive comments” from their constituents. It is unclear whether this provision would require committees to make information available to constituents who have not signed a confidentiality agreement. For that reason, the newest edition of “first day orders” undoubtedly will limit dissemination of information to those creditors who are bound by confidentiality restrictions.

3. Broadening Committee Participation—A new section 1102(a)(4) will permit courts to alter the makeup of committees and increase their size to ensure adequate representation of the various creditor and equity holder constituencies. The section also allows courts to order the addition of creditors with smaller claims where the claim is a large portion of that creditor’s annual gross income. This change was intended to increase the participation of trade representatives on committees.

4. New Reclamation Rules—Revised section 546(c) pre-empts the UCC reclamation rules and allows a seller to reclaim merchandise sent to the debtor in the 45 days prior to the filing of the bankruptcy petition.

5. Administrative Expense Priority for Prepetition Sales—A new section 503(b)(9) will give administration expense priority to claims for goods delivered to a debtor in the ordinary course of the debtor’s business within 20 days before bankruptcy. Although priority status has frequently been granted in lieu of returning goods pursuant to a timely reclamation demand, the new provision is not tied to reclamation rights.

6. Enhanced Treatment of Tax Claims—Several changes that improve the treatment of priority tax claims will increase the cash payments required of a reorganized debtor. A new section 511 requires that interest on priority tax claims be calculated at the applicable non-bankruptcy rate—bankruptcy courts will no longer determine the appropriate rate and reorganized debtors will have to pay interest to each taxing authority at the rate applicable to delinquent taxpayers. Meanwhile, revised section 1129(a)(9) will require both secured and unsecured priority tax claims be paid in full by regular cash payments within five years of the bankruptcy filing and in a manner that is at least as favorable as the treatment given to the most favorably treated nonpriority unsecured claims.

7. Limitations on KERP and Severance Payments—Amended section 503 will bar the payment of retention bonuses to insiders (i.e., officers and directors) unless the insider is essential to the business and has a competing job offer. Even then, the insider’s retention bonus cannot exceed 10 times the average of all non-insiders’ retention bonus payments made in the prior year. The amendment will also bar severance payments for insiders unless they (a) are made in a program that is applicable to non-insiders and (b) do not exceed 10 times the average of all non-insiders’ severance payments made in the prior year.

8. Preferences Will Be Easier to Defend—Section 547 has several changes that will make it easier to defend preferences actions. Secured lenders will appreciate new section 547(e), which extends the grace period for perfection of a security interest to a more realistic 30 days. Trade creditors will benefit from amended section 547(c)(2), which makes the ordinary course defense much easier to prove. Defendants will now have to prove that the payment was made on ordinary business terms of either (a) the parties, or (b) the industry. Finally, 28 U.S.C. §1409 has been amended to require that avoidance actions seeking less than $10,000 (or $1,000 if the action is against an insider) must be brought in the jurisdiction where the defendant is located.

9. Cross Border Cases—The newest chapter In bankruptcy will be Chapter 15, the enactment of the United Nations’ model law on cross-border insolvencies, which replaces Bankruptcy Code section 304. A Chapter 15 case will be commenced by a foreign representative filing a petition for recognition of a foreign bankruptcy proceeding. The new chapter gives bankruptcy judges the power to grant broad relief, including enjoining the enforcement of judgments, prohibiting the transfer of assets, and appointing trustees or examiners.

10. Serial Filings—Under revised section 362(c), when a Chapter 7 or 11 petition is filed by or against an individual debtor less than a year after the dismissal of a prior case, the automatic stay will expire 30 days after the petition date unless the court extends it for cause. A second filing may also be presumed to be in bad faith in several circumstances, including the instance when the prior case was dismissed for the debtor’s failure to provide adequate protection ordered by the court.

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This article originally appeared in Bankruptcy & Restructuring, a publication of Anderson Kill & Olick, P.C. Reprinted with permission.

riskVue | The webzine for risk management professionals
February 2006