U.S. District Court In Connecticut Navigates Supreme Court Precedent Barring Recovery Of Certain Postpetition Default Interest

• Jurisdiction: United States,Federal
• Law Firm: Pillsbury Winthrop Shaw Pittman
• Subject Matter: Insolvency/Bankruptcy/Re-structuring, Insolvency/Bankruptcy
• Author: Patrick Potter, David Miller and Jonathan Doolittle
• Published date: 13 April 2023

An oversecured creditor can recover default interest where the sole default trigger was the borrower's bankruptcy filing after considering all relevant equitable considerations.

TAKEAWAYS

• While Bankruptcy Code section 506(b) expressly authorizes oversecured lenders to recover postpetition interest, it is silent about the applicable rate and the significance, if any, of debtor solvency.
• Because section 506(b) did not change law existing when the Bankruptcy Code was enacted in 1978, courts look to pre-Code law for guidance, including Supreme Court authority barring lenders of insolvent debtors from recovering postpetition interest at the contract default rate even if the lenders are oversecured.
• Despite Supreme Court precedent and other persuasive authorities arguably to the contrary, oversecured lenders to insolvent debtors may recover postpetition interest at the default rate (even where the sole trigger for the default rate is the bankruptcy filing), if the spread between the default and non-default rate is not punitive or inequitable and the lender has not acted in bad faith.

Whether and on what terms postpetition interest can be collected is a heavily debated and hot topic. The term "postpetition interest" means interest accruing after a borrower files (or has creditors that file) a petition commencing its bankruptcy. It is generally accepted that all creditors of a "solvent debtor" (meaning a debtor with assets valued above its liabilities), even prepetition "unsecured" creditors (those with no collateral) and "undersecured" creditors (those whose collateral is worth less than their debt), can recover some rate of postpetition interest. Unsecured and undersecured creditors of an insolvent debtor cannot recover such interest. Conversely, "oversecured creditors" (those whose collateral value is greater than the amount of their debt) can recover postpetition interest, within limits, from insolvent debtors up to the value of their collateral. In this alert, we examine the bases for awarding postpetition default interest to oversecured creditors particularly in light of Official Creditors' Committee v. Entrepreneur Growth Capital (In re Latex Foam International LLC), No. 3:21-cv-01311-VLB, 2023 WL 2403757 (D. Conn. March 8, 2023) (hereinafter "Latex Foam"), a recently issued decision from a U.S. District Court in Connecticut.

BACKGROUND

Bankruptcy Code section 506(b) provides that oversecured creditors can recover postpetition interest and other fees...