Received Notice of Bankruptcy & Failed to Act? You May Still be Safe

by James Berg and Joseph Lemkin on April 10, 2014

in Business Bankruptcy

OopsA well-known concept in bankruptcy cases is that creditors who receive notice of the filing and fail to take action to preserve their rights may waive those rights. There are, however, exceptions to this. In the case of In re S. White Transportation (“White Transportation”), the U.S. Court of Appeals for the Fifth Circuit allowed a secured creditor that had received notice of the debtor’s chapter 11 case – but failed to act to protect its interests until after the confirmation of the debtor’s plan – to assert a lien against the debtor’s property post-confirmation.

In large chapter 11 cases with thousands of claims, debtors generally rely on the Supreme Court’s holding in United Student Aid Funds, Inc. v. Espinosa that a creditor’s rights can be impacted in the bankruptcy case as long as sufficient notice has been given in compliance with due process obligations. So, what happened in the White Transportation case?

When White Transportation filed its schedules, it stated that the lien of Acceptance Loan Co. (“Acceptance”) was disputed. Acceptance received numerous notices, failed to file a claim and did not object to the plan of reorganization. After the plan of reorganization was confirmed, Acceptance filed a motion requesting that its lien survive even though the plan provided no recovery for Acceptance. The bankruptcy court denied the motion, but the district court reversed and the Fifth Circuit upheld the reversal.

The Fifth Circuit’s decision was based upon the general principle that liens are unaffected by a bankruptcy filing. But the court recognized that 11 U.S.C. § 1141(c) provides exceptions to this general principle. In determining that Section 1141(c) did not apply to Acceptance’s lien, the court found that in order to void a secured creditor’s lien, the creditor must have participated in the chapter 11 case. The court did not outline what “participation” meant, but it apparently did not include a creditor who received notice of the bankruptcy and failed to act to protect its rights. The Fifth Circuit held that participation “requires more than passive receipt of effective notice.” Thus, Section 1141(c) did not apply to Acceptance in the White Transportation case.

Although the Fifth Circuit’s holding is good news for creditors, the White Transportation case could provide a significant obstacle to a debtor’s ability to reorganize.

For more information on recent changes in bankruptcy law, contact the attorneys at Parker Ibrahim & Berg LLC.


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