Fifth Circuit Affirms Ruling Under In re Till, but Rejects Till as Exclusive Chapter 11 Cram Down Interest Rate Methodology

Summary:

In re Texas Grand Prairie Hotel Realty, LLC, 2013 U.S. App. LEXIS 4514 (5th Cir. 2013):  On March 1, 2013, the United States Court of Appeals for the Fifth Circuit clarified(?) its position regarding the applicability of the United States Supreme Court’s decision in In re Till to the establishment of a cram down interest rate in the context of a Chapter 11 plan.  In short, the court affirmed a lower court ruling in which both sides stipulated to the use of In re Till’s “prime rate plus” method, but clearly stated at the conclusion of this opinion that In re Till did not provide the exclusive methodology by which Chapter 11 cram down interest rates are set.

Background – In re Till and Interest Rates on Secured Claims:

In Till, the Supreme Court addressed the so-called cram down interest rate applicable to a secured claim in a Chapter 13 bankruptcy case – that is, the appropriate interest rate under the Bankruptcy Code’s requirement that a secured creditor be provided the present value of its claim.  Again, Till arose in the context of a Chapter 13, which is a bankruptcy proceeding for an individual with regular income.

The Bankruptcy Code speaks only in terms of “present value.”  It does not provide a specific test or methodology for setting an interest rate when a secured creditor objects to its treatment in a contested plan confirmation.  In Till, a plurality (four members) of the Supreme Court came up with a formula of its own.  That is, to take the nationally published “prime rate” and add a risk factor.

Till’s precedential value is somewhat questionable because it was a plurality decision, and it arose in the context of an individual Chapter 13 case.  And a dissent by Justice Scalia harshly criticized the rationale, observing it would systematically undercompensate secured creditors, noting further that the interest rate set by the Till plurality was nothing “other than a smallish number picked out of a hat.”

Thus, Till has left lower courts in somewhat of a quandary, especially when the interest rate issue arises in Chapter 11 cases; more specifically, the issue facing lower courts has been whether the judge-made formula established by a plurality reviewing a Chapter 13 case would apply in a Chapter 11 context.

Even in a Chapter 13 context, the Fifth Circuit has expressed reservations about the precedential value of Till:

Till was a splintered decision whose precedential value is limited even in the Chapter 13 context.  While many courts have chosen to apply the Till plurality’s formula method under Chapter 11, they have done so because they were persuaded by the plurality’s reasoning, not because they considered Till binding.

Continuing, the Fifth Circuit concluded that “the plurality’s suggestion that its analysis also governs in a Chapter 11 context – which would be dictum even in a majority opinion – again is not ‘controlling precedent.’”

Fifth Circuit Precedent on Interest Rates:

The two leading cases in the Fifth Circuit regarding cram down interest rates were previously In re Smithwick, 121 F.3d 211 (5th Cir. 1997) and In re T-H New Orleans Ltd. P’ship, 116 F.3d 790 (5th Cir. 1997).  In Smithwick (a pre-Till case), the Fifth Circuit held that bankruptcy courts should calculate the Chapter 13 cram down rate using a “presumptive contract rate.”  Under which the contractual rate was presumed applicable.  But in that case, the Fifth Circuit reaffirmed that it had declined to establish a particular formula for the cram down interest rate in Chapter 11 cases.  In other words, Smithwick was a fact-specific departure from (but not an overruling of) the court’s previous holding in T-H New Orleans.

In T-H New Orleans, the Fifth Circuit explicitly declined to establish a particular formula for determining an appropriate cram down interest rate in Chapter 11, reasoning that it would be imprudent to “tie the hands of the lower courts as they make the factual determination involved in establishing an appropriate interest rate.”  Thus, one could easily conclude that the Fifth Circuit’s approach to Chapter 11 interest rates has been flexible, and it has avoided the temptation of imposing a judge-made formula, leaving the analysis instead to the bankruptcy courts, under the plain language of the Bankruptcy Code.

Texas Grand Prairie Hotel Realty, LLC Opinion:

In Texas Grand Prairie Hotel, the Fifth Circuit addressed a case in which both the debtor and the affected secured creditor appeared to have stipulated to the applicability of Till’s formula approach.  The Fifth Circuit found that there was no error committed and affirmed the lower court’s ruling, which found that a relatively low “prime rate plus” interest rate should apply in that case.  But that was not the end of the Fifth Circuit’s analysis.

Critically, the Fifth Circuit expressly stated that it reaffirmed its decision in T-H New Orleans:

We will not tie bankruptcy courts to a specific methodology as they assess the appropriate cramdown rate of interest; rather, we continue to review a bankruptcy court’s entire cramdown-rate analysis only for clear error.

Thus, the court found itself in the rather odd position of reviewing a formula that it apparently views is not the exclusive method by which to assess a Chapter 11 interest rate.  The opinion is critical of Till, concluding that Till is not binding in a Chapter 11 context, with the possible exception being where a so-called “efficient market” for exit financing exists (this is based, in part, on Till’s well known “Footnote 14” regarding a market rate approach under Chapter 11).

In conclusion, the Fifth Circuit decided that Till’s “prime-plus approach” was endorsed by a plurality of the Supreme Court and many bankruptcy courts, thus the court could not find that using Till constituted reversible error.  That said, the court held that “we do not suggest that the prime-plus formula is the only – or even the optimal – method for calculating the Chapter 11 cram down rate.”

Our View:

Texas Grand Prairie Hotel does not really provide us with any new law, but rather a reiteration that the Fifth Circuit clearly does not believe that In re Till is the best approach for imposing a cram down rate in a Chapter 11.

A primary criticism of In re Till is that not only did it come from a plurality (and not a majority) of the Supreme Court, but it attempted to impose its own judge-made formula.  In effect, it manufactured a new Bankruptcy Code provision outside of the legislative process.  Thus, courts like the Fifth Circuit question its binding precedential value, even in Chapter 13 cases.  The best approach seems to be to apply Till as narrowly as possible to cases that present facts similar to what was originally presented in Till (specifically, a Chapter 13 case).  Thus, under this reasoning, Till is clearly not binding in Chapter 11 cases, at least in the Fifth Circuit.

*Roger Cox, a shareholder with the Underwood Law Firm, is Board Certified in Business Bankruptcy Law, Commercial Real Estate Law, and Farm & Ranch Real Estate Law by the Texas Board of Legal Specialization and a member of the American Bankruptcy Institute.  Mr. Cox is a co-author of Bankruptcy Road Map, and a former contributor to the SMU Law Review.  This article is for general information only and is not intended as legal advice or as a specific position asserted on behalf of any existing or future client of the firm.

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