Decision Favors Secured Creditors in Single Asset Real Estate Bankruptcy Cases

On January 19, 2012, the 7th Circuit Court of Appeals issued an opinion in In re River East Plaza, LLC, 2012 WL 169760 (7th Cir. January 19, 2012), affirming an order by the U.S. Bankruptcy Court for the Northern District of Illinois, Eastern Division, granting an undersecured creditor's motion to lift the automatic stay and dismissing the debtor's single asset real case. The debtor attempted to defeat the mortgagee's motion to lift the automatic stay by proposing a "cramdown" Chapter 11 plan of reorganization. A cramdown Chapter 11 plan is one that could be confirmed by the court despite a rejection by the mortgagee. The mortgagee, whose note was set to mature shortly, held a $38.3 million claim secured by a building valued at $13.5 million. The mortgagee elected to waive its $24.8 million deficiency claim and have its entire $38.3 million claim treated as fully secured under section 1111(b)(2) of the Bankruptcy Code. Consequently, in order for the debtor's cramdown to succeed, the debtor had to provide the mortgagee with a stream of payments that (1) totaled at least $38.3 million, and (2) had a present value of $13.5 million. The debtor's plan sought to satisfy these requirements by transferring the mortgagee's lien to an $18.5 million portfolio of U.S. Treasury bonds bearing interest at 3% and maturing in 30 years. The debtor argued that this treatment provided the mortgagee with the "indubitable equivalent" of the mortgagee's claim under section 1129(b)(2)(A)(iii) of the Bankruptcy Code because the $18.5 million bond portfolio would be worth $38.3 million at maturity.

The 7th Circuit rejected the debtor's argument. Writing for the court, Judge Posner agreed with the Bankruptcy Court that an undersecured creditor cannot be forced to accept substitute collateral once that creditor has elected under section 1111(b)(2) of the Bankruptcy Code to waive its deficiency claim and hold a secured claim equal to the total amount of its debt. According to Judge Posner, transferring such creditor's lien to substitute collateral would deprive that creditor of its right to capture any future appreciation in the value of the debtor's real estate. Furthermore, requiring an undersecured creditor, which had made a relatively short-term loan, to wait 30 years for payment would subject that creditor to a new and unacceptable risk of inflation, thereby eroding the value of its substitute collateral.

By virtually eliminating the single asset debtor's ability to confirm a cramdown reorganization plan that proposes to give an undersecured creditor the "indubitable equivalent" of its claim, River East Plaza has enhanced the ability of an undersecured creditor who elects treatment of its claim under section 1111(b)(2) of the Bankruptcy Code to obtain relief from the automatic stay in a single asset real estate case. This is another arrow in a secured creditor's quiver when fighting similar cases.

Please contact Richard M. Bendix, Jr. at 312-627-5673, Gary P. Segal at 312-627-2482, Michael S. Kurtzon at 312-627-5674, or your Dykema lawyer to discuss the implications of the River East Plaza decision for your particular situation.

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