Fifth Circuit Withdraws Opinion that Make-Whole Constitutes Unmatured Interest in Bankruptcy

December 05, 2019

Granting unusual relief requested by a group of noteholders co-represented by Morgan Lewis, on November 26, a three-judge panel of the US Court of Appeals for the Fifth Circuit withdrew its original opinion issued earlier this year in In re Ultra Petroleum, which held that a make-whole is “unmatured interest” that is disallowed in bankruptcy pursuant to 11 USC § 502(b)(2). The court’s revised opinion also eliminated dicta in the original opinion suggesting that the “solvent-debtor exception,” which provides that a solvent debtor should honor its contractual commitments (including the payment of post-petition interest), did not survive enactment of Section 502(b)(2) of the Bankruptcy Code. The revised opinion did not alter the original opinion’s reversal of the bankruptcy court’s ruling that creditors who are unimpaired in a bankruptcy plan pursuant to 11 USC § 1124(a)(1) must receive the full amount of their claim under state law, including make-whole and post-petition interest at the contract rate.

The case was heard on direct appeal from a decision of Bankruptcy Judge Marvin Isgur in the US Bankruptcy Court for the Southern District of Texas. A three-judge panel issued the original opinion on January 17, 2019. The noteholder appellees subsequently moved for rehearing en banc. Treating the petition for rehearing en banc as a petition for panel rehearing, the original three-judge panel withdrew the original opinion and substituted a new opinion, which vacates in part, reverses in part, and remands to Judge Isgur for further proceedings.

Original Court of Appeals Opinion

The Fifth Circuit’s original opinion reversed Judge Isgur’s decision below that because Ultra’s plan of reorganization left the claims of certain noteholders unimpaired pursuant to 11 USC § 1124(1), those noteholders were entitled to the full extent of their state law rights, including the payment of make-whole and post-petition interest at the contractual rate. In doing so, Judge Isgur found that 11 USC § 502(b)(2), which disallows claims for post-petition interest, was inapplicable to unimpaired classes of claims. In reversing this decision, the Fifth Circuit adopted the reasoning put forth in another context by the US Court of Appeals for the Third Circuit in Solow v. PPI Enterprises, 324 F.3d 197 (3d Cir. 2003): Section 1124 only prohibits “plan” impairment, and application of the allowance limitations in Section 502 is merely “code” impairment.

Finding Section 502(b)(2) applicable, the Fifth Circuit went on to reach a question that had not been decided below, ruling that a standard make-whole provision in a note purchase agreement constitutes “unmatured interest” disallowed by Section 502(b)(2). In doing so, the court found that a make-whole payment was the “economic equivalent” of interest and that it was unmatured—even though payable under an automatic acceleration-upon-bankruptcy provision—reasoning that maturity must be considered without reference to any ipso facto clause.

The Fifth Circuit’s original opinion remanded the case to the bankruptcy court to consider whether the “solvent-debtor exception” had survived enactment of the 1978 Bankruptcy Code and would require payment of the make-whole premium under the separate theory that a solvent debtor must honor its contracts. However, in dicta, the original opinion expressed “doubt” that the solvent-debtor exception survived Congress’s enactment of Section 502(b)(2).

The court also remanded to determine the rate of post-petition interest payable given its reversal of the bankruptcy court’s decision that unimpairment of the noteholders’ claims entitled them to contract rate interest. In doing so, the Fifth Circuit expressed the view that the federal judgment rate is the only statutory rate that could apply, but that equity might dictate a different rate.

The Substituted Opinion

The Fifth Circuit’s new Ultra opinion leaves undisturbed its reversal of the bankruptcy court’s ruling on impairment and Section 1124 and its prior adoption of the reasoning in PPI Enterprises distinguishing between “code” impairment and “plan” impairment.

The new opinion does, however, eliminate the holding in the prior opinion that make-whole constitutes unmatured interest disallowed by Section 502(b)(2). Instead, the new opinion acknowledges that make-whole disputes are common in modern bankruptcy and that resolution of such disputes can depend on the “‘dynamics of the individual case.’” The issue is therefore remanded for determination by the bankruptcy court in the first instance.

Like the original opinion, the new opinion also remands to the bankruptcy court the applicability of the solvent-debtor exception. In doing so, however, the new opinion eliminates the dicta from the old opinion doubting that the solvent-debtor exception applies, replacing it with dicta that suggests the opposite. The new opinion provides that there is “no reason why the solvent-debtor exception could not apply” and cites language from other circuit court decisions stating that, where a debtor is solvent, it is the role of bankruptcy courts to enforce creditors’ contractual rights. Moreover, in a new footnote, the Fifth Circuit suggests that the equitable power of the bankruptcy court to enforce contracts where a debtor is solvent may be preserved by Section 1124(a)(1) of the Bankruptcy Code, which leaves unaltered an unimpaired claimant’s “legal, equitable and contractual rights.” (emphasis added)

The new opinion also eliminates any dicta discussing the appropriate rate of post-petition interest, leaving a clean slate for the bankruptcy court on that issue on remand.

Next Steps

The Ultra dispute will now return to Judge Isgur for further proceedings regarding the application of Section 502(b)(2) and the solvent-debtor exception and for a determination as to the appropriate rate of post-petition interest.

Morgan Lewis co-represents appellee noteholders in the matter.


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Andrew Gallo