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SECURED CLAIMS IN BANKRUPTCY: ON THE DESIGN OF PARTIAL-PRIORITY RULES 5

The other partial priority rule we put forward in The Uneasy Case is the adjustable-priority rule.139 Under the adjustable-priority rule, claims of nonadjusting creditors would not be subordinated to secured claims with respect to which they were nonadjusting. In other words, a nonadjusting creditor’s share of bankruptcy value would be calculated by (1) assuming that the secured claims with respect to which the creditor was nonadjusting were actually unsecured claims, and (2) applying the rule of full priority. The difference between what the nonadjusting creditor would receive under the rule of full priority and what it receives under the adjustable priority rule would come at the expense of the secured claims with respect to which it was nonadjusting. Adjusting creditors would receive what they would have received under the rule of full priority.
One might question whether a bankruptcy court could in fact identify those creditors that were nonadjusting with respect to a particular security interest in order to enforce such a rule. In The Uneasy Case, we address the feasibility of implementing the adjustable-priority rule, and will not do so again here. Below, we will simply assume that the court is able to identify a debtor’s nonadjusting creditors to show how the rule would work under ideal conditions. speedy-payday-loans.com

Suppose again that a borrower goes into bankruptcy with $1.2 million in assets and outstanding liabilities of $3 million, of which $1 million is owed to the secured creditor, $1 million is owed to an adjusting unsecured creditor, and $1 million is owed to a nonadjusting creditor. Again, assume that $1.2 million of the assets are subject to a security interest which the creditor holds.
In the absence of any priority, the $1.2 million in assets would be divided on a pro rata basis with each creditor receiving $400,000. Under the rule of full priority, assuming that all unsecured creditors share pro rata in the remaining assets, the creditor will receive $1 million and the remaining $200,000 in assets will be divided equally between the other two creditors. The result under full priority is that $300,000 of bankruptcy value is transferred from each unsecured creditor to the secured creditor. The secured creditor thus benefits under the full priority rule at the equal expense of both the adjusting and the nonadjusting creditor.

This post was written by , posted on January 5, 2015 Monday at 4:30 pm