April 20, 2005

Bankruptcy Reform Bill Becomes Law

Holland & Knight Alert
John J. Monaghan | Barbra R. Parlin

On April 20, 2005, President Bush signed into law the Bankruptcy Abuse and Consumer Protection Act of 2005 (the Act). The Act encompasses the most comprehensive overhaul of the Bankruptcy Code in nearly 30 years. The new law, while primarily aimed at curbing perceived abuses of the bankruptcy process by consumer debtors, contains a number of provisions impacting business bankruptcies as well. The effective date for the majority of the amendments is October 17, 2005, 180 days from the date of enactment of the Act. The majority of the amendments are applicable only to those cases filed on or after the effective date. The business amendments to the Bankruptcy Code include provisions addressing the following:

Investment Bankers

Investment bankers and their counsel will no longer be ineligible for employment by a Chapter 11 debtor because of their involvement in a securities offering prior to the commencement of the bankruptcy case.

Sale Restrictions

Limitations are placed on the debtor’s ability to sell personal information, such as might appear on customer lists.

Easing of Contract Assumption

The preconditions to assumption of executory contracts will not require the cure of non-monetary defaults.

Decisions on Real Estate Leases

The time within which a debtor must decide whether to assume or reject a non-residential real estate lease is expanded from 60 days to 120 days, but, unlike prior law that allowed unrestricted extensions of the period within which to decide to assume or reject such a lease, that time period can be expanded without the landlord’s consent for only an additional 90 days.

Limit on Lease Rejection Damages

If a debtor assumes a real estate lease, but later decides that doing so was a mistake and rejects the lease, the landlord’s administrative claim arising from the rejection is capped at two years’ rent. The landlord will hold a general unsecured claim for amounts due for the remainder of the lease term.

Protection of Utility Companies

Utility companies’ rights to protection against loss from providing service to Chapter 11 debtors include a cash deposit, a letter of credit or a surety bond, but cannot be satisfied through the grant of an administrative expense claim.

Protection of Vendors

Any vendor that ships goods to the debtor in the 20 days prior to the commencement of the bankruptcy case is entitled to an administrative expense claim for any unpaid amount for those goods.

Expansion of Reclamation Rights

A seller of goods may reclaim goods shipped to a debtor upon providing notice within 45 days of receipt of the goods by the debtor or within 20 days of the petition date if the 45-day period has not expired by that date – even if such seller has no reclamation rights under state law. In addition, the reclamation rights provided under the Bankruptcy Code to a seller of goods preclude the exercise by a debtor of certain avoidance powers under the Bankruptcy Code, including the avoidance of a transfer as a preference.

Virtual Elimination of KERPs

The debtor will have to overcome a substantial evidentiary burden before any retention bonus or golden parachute for the benefit of an insider will be authorized.

Doubling of Priority Wage Claims

The amount of unpaid wages that must be paid in full as a condition to confirmation of any plan of reorganization is increased from $4,925 per individual to $10,000 per individual.

Protection of Taxing Authorities

Tax claims must be paid under a plan of reorganization within five years from the commencement of the bankruptcy case and in a manner not less favorable than the most favored non-priority unsecured claim.

Tightening of Preference Provisions

A transfer may not be avoided as a preference if the amount in controversy is less than $5,000. Transfers will also be unavoidable as preferences if either the transfers were in payment of debts incurred and made in the ordinary course of business between the debtor and the recipient of the transfer, or if they were made according to ordinary business terms. Finally, any action seeking recovery of a preferential transfer of less than $10,000 can only be brought in the federal district in which the transferee is located.

Expansion of Fraudulent Transfer Actions

The reach-back period for the avoidance of a fraudulent transfer under section 548 of the Bankruptcy Code is expanded from one year to two years.

Miscellaneous Provisions Relating to Derivatives

There are a number of provisions protecting transactions relating to derivatives and similar financial instruments.

Court Authority Over Committee Composition

Bankruptcy courts are afforded the authority to direct that the U.S. Trustee change the membership of the official committee of unsecured creditors to ensure adequate representation of creditors and equity security holders.

Committee’s Obligation to Share Information

An official committee of unsecured creditors is obligated to afford creditors holding claims of the kind represented by the committee access to information in the committee’s possession, and to solicit and receive comments from the committee’s non-member constituents.

Removal of Corrupt Corporate Officers

The U.S. Trustee is obligated to seek appointment of a Chapter 11 trustee or an examiner if the debtor’s CEO or CFO, or members of the governing body that selected the debtor’s CEO or CFO, participated in actual fraud, dishonesty, or criminal conduct in the management of the debtor or the debtor’s public financial reporting. However, there is no provision in the Act requiring that the bankruptcy court grant such a motion.

Limit of Exclusivity Extensions

The 120-day period during which the debtor has the exclusive right to file a plan of reorganization cannot be extended to more than 18 months following the date of the case’s commencement.

Acceptance of Prepackaged Plans

The acceptance or rejection of a plan may be solicited prior to the commencement of the bankruptcy case and without the use of an approved disclosure statement if the solicitation complied with applicable non-bankruptcy law.

Altered Appellate Rights

In certain circumstances, an appeal of a bankruptcy court order may be direct to the Court of Appeals, and need not first be subject to intermediate appellate review by the United States District Court or the Bankruptcy Appellate Panel.

For more information, e-mail John Monaghan at john.monaghan@hklaw.com, Barbra Parlin at barbra.parlin@hklaw.com or Peter Zisser at peter.zisser@hklaw.com, or call toll free, 1.888.688.8500.

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