CHAPTER 11 PLANS: Wiping Out a Lien by Not Expressly Preserving It in a Plan Provision
Case Note Re: Caillouet v. First Bank and Trust (In re Entringer Bakeries, Inc.), No. 07-30499, 2008 WL 4821613 (5th Cir. Nov. 6, 2008)
By: Jonathan L. Howell
2007
In Elixir Industrial, Inc. v. City Bank & Trust Co. (In re Ahern Enterprises, Inc.), 507 F.3d 817 (5th Cir. 2007), the Fifth Circuit joined the Fourth, Seventh, Eight, and Ninth Circuits in holding that 11 U.S.C. § 1141(c) operates to extinguish liens, where: (1) the plan was confirmed; (2) the plan dealt with the property subject to the lien; (3) the lien holder participated in the reorganization; and (4) the plan did not expressly preserve the lien.
In May 1996, Elixir Industries, Inc. (Elixir) recorded a judgment lien against Ahern Enterprises, Inc. (Debtor), encumbering Ahern's manufacturing facility. At that time, the facility was already subject to a mortgage held by City Bank, which exceeded the value of the facility.
After Ahern filed for chapter 11 protection on July 31, 1996, Elixir filed a proof of claim for an unsecured priority claim. Ahern, as debtor in possession, objected to the claim, arguing that Elixir held a general unsecured claim, because the lien was junior to City Bank's mortgage, and because there was no unencumbered property to which the lien could attach. Following a hearing on April 7, 1998, the bankruptcy court sustained Ahern's objection.
City Bank then filed a motion requesting the court cancel all judgment liens on two parcels of land held by Ahern. The bankruptcy court granted the motion and ordered the cancellation of all judgments affecting the two parcels of land, neither of which included the manufacturing facility.
On May 30, 1997, the bankruptcy confirmed Ahern's chapter 11 plan. Thereafter, Ahern converted its case into liquidation under chapter 7.
After conversion, City Bank and the chapter 7 trustee filed a joint motion requesting the court approve the sale of the manufacturing facility to the bank in partial satisfaction of the mortgage. Following court approval, the trustee transferred the deed to the property to City Bank.
City Bank then sold the manufacturing facility to a third party. No title check was performed to discover Elixir's judgment lien. The third party subsequently defaulted, and City Bank foreclosed on the property.
In contemplation of selling the property again, City Bank discovered that Elixir's lien had not been cancelled and filed a complaint for declaratory relief. The bankruptcy court held the lien was void, reasoning that its April 1998 order—sustaining Ahern's objection to Elixir's proof of claim—had extinguished the lien. Elixir appealed. And the district court affirmed.
On appeal to the Fifth Circuit, the court first abstained from deciding whether the April 1998 order voided the lien. Rather, the court addressed the issue of whether, under 11 U.S.C. § 1141(c), confirmation of a chapter 11 plan voids liens on the property dealt with by the plan, when the lien holder participates in the reorganization proceedings, and the liens are not specifically preserved in the plan.
In deciding this issue of first impression, the Fifth Circuit noted that other circuits have considered § 1141(c) in similar cases and concluded that § 1141(c) operates to extinguish liens that are not preserved in a confirmed chapter 11 plan. Outlining the rationale of these circuits, the Fifth Circuit pointed out that these circuits acknowledged the long-standing principle that liens pass through bankruptcy unaffected but ultimately concluded that liens are extinguished under such circumstances. Finding the results and the reasoning of these circuits sound, the Fifth Circuit joined their position, holding that § 1146(c) provides the default rule that a confirmed chapter 11 plan voids liens not specifically preserved by the plan, provided that the plan dealt with property to which they attach and the lien holder participates in the reorganization. The Fifth Circuit emphasized that four condition must be met for a lien to be voided under § 1141(c): (1) the plan must be confirmed; (2) the plan dealt with the property subject to the lien; (3) the lien holder must participate in the reorganization; and (4) the plan must not preserve the lien.
Applying these criteria to the facts of the case before it, the court ruled that Elixir's lien was void. The court then noted that a split among the circuits existed as to exactly what must be "dealt with" by a chapter 11 plan under § 1141(c)—finding that some circuits propose that the lien that is to be voided must be dealt with by the plan, while other circuits have interpreted § 1141(c) to require that the property subject to the lien be dealt with by the plan. The Fifth Circuit adopted the latter view, reasoning that the plain language of § 1141(c) states that the "property dealt with by the plan is free and clear of all claims and interests," not the "liens."
Elixir Indus., Inc. v. City Bank & Trust Co. (In re Ahern Enters., Inc.), 507 F.3d 817 (5th Cir. 2007).
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