Acceleration Enforceable Under State Law Following Non-Monetary Control Covenant Default Prevents Reinstatement Of Loan Under Chapter 11 Plan

• Jurisdiction: United States,Federal
• Author: Mr Daniel Merrett and Mark Douglas
• Law Firm: Jones Day
• Published date: 01 February 2023

Chapter 11 debtors commonly use plans of reorganization to decelerate defaulted loans and reinstate the obligations according to their original terms as a means of locking in favorable terms in an unfavorable market. In order to do so, the Bankruptcy Code requires that the trustee or chapter 11 debtor-in-possession ("DIP") "cure" any defaults under the loan agreement, other than defaults related to a debtor's financial condition ("ipso facto provisions") or penalties payable due to the debtor's breach of certain non-monetary obligations.

The U.S. Bankruptcy Court for the Eastern District of New York addressed the cure obligation incident to reinstatement of a prepetition loan under a plan in In re 975 Walton Bronx LLC, 2022 WL 5265041 (Bankr. E.D.N.Y. Oct. 6, 2022). After finding that acceleration of the loan was not subject to state law equitable exceptions to enforcement, the court ruled that the DIP could not reinstate the loan without curing a default arising from a change in control of the debtor without the lender's consent.

Reinstatement of Obligations Under a Chapter 11 Plan

Confirmation of chapter 11 plans involving reinstatement of an objecting secured creditor's claim hinges on the Bankruptcy Code's definition of "impairment." Classes of claims or interests may be either "impaired" or "unimpaired" by a plan. The distinction is important because only creditors holding claims in impaired classes have the right to vote to accept or reject a plan. Under section 1126(f) of the Bankruptcy Code, unimpaired classes of creditors and shareholders are conclusively presumed to have accepted a plan.

Section 1124 defines impairment, providing as follows:

Except as provided in section 1123(a)(4) of this title [permitting the holder of a claim or interest to agree to less-favorable treatment of its claim or interest than the class], a class of claims or interests is impaired under a plan unless, with respect to each claim or interest of such class, the plan'

(1) leaves unaltered the legal, equitable, and contractual rights to which such claim or interest entitles the holder of such claim or interest; or

(2) notwithstanding any contractual provision or applicable law that entitles the holder of such claim or interest to demand or receive accelerated payment of such claim or interest after the occurrence of a default'

(A) cures any such default that occurred before or after the commencement of the case under this title, other than a default of a kind specified in section 365(b)(2) of this title or of a kind that section 365(b)(2) expressly does not require to be cured;

(B) reinstates the maturity of such claim or interest as such maturity existed before such default;

(C) compensates the holder of such claim or interest for any damages incurred as a result of any reasonable reliance by such holder on such contractual provision or such applicable law;

(D) if such claim or such interest arises from any failure to perform a non-monetary obligation, other than a default arising from failure to operate a nonresidential real property lease subject to section 365(b)(1)(A), compensates the holder of such claim or such interest (other than the debtor or an insider) for any actual pecuniary loss incurred by such holder as a result of such failure; and

(E) does not otherwise alter...