A Pre-Conversion Superpriority Claim Has Priority Over Post-Conversion Administrative Expenses

St. John’s Law Student

 

American Bankruptcy Institute Law Review Staff

 

 

Following the conversion of the bankruptcy case from chapter 11 to chapter 7, the Bankruptcy Court for the Southern District of Florida, in In re National Litho, LLC, recently held that a DIP lender’s pre-conversion superpriority claim had priority over any and all post-conversion administrative expenses.[1]  In National Litho, the debtor initially filed its bankruptcy case under chapter 11 of the Bankruptcy Code.  In its motion to approve the post-petition financing, the debtor requested the authority to grant the DIP lender a superpriority claim under section 364(c)(1), which would have priority over “any and all administrative expenses.”[2]  Two days after the court approved the DIP financing, the court converted the case from chapter 11 to chapter 7. [3] The chapter 7 trustee subsequently objected to the DIP lender’s motion to allow its superpriority claim.[4]   The court found that the phrase “any and all administrative expenses” included any and all chapter 7 administrative expenses.[5]  Therefore, the court opined that the conversion of a bankruptcy case under chapter 7 did not impact the priority of a pre-conversion superpriority claim granted under section 364(c)(1).[6]  Accordingly, the court held that the DIP lender’s claim had priority over the post-conversion administrative expenses.[7]

 

National Litho, LLC, represents the minority approach.  The majority view was elaborated in In re Energy Co-op, Inc,and holds that the claims for administrative fees of chapter 7 claimants are entitled to priority over those in the pre-conversion chapter 11 case.[8] Likewise, the court in In re Summit Ventures, Inc., held that the Bankruptcy Code required that chapter 7 administrative expenses have priority over pre-conversion chapter 11 administrative claims as a matter of policy to ensure that the post-conversion bankruptcy process will continue to run efficiently while ensuring that the trustee will receive compensation for the work they have done.[9]  The National Litho court disagreed with these courts’ reasoning, stating that the Bankruptcy Code is unambiguous and a court should not rely on a policy argument to vary the Bankruptcy Code’s plain language.[10] 

 

National Litho is significant to secured lenders and chapter 7 trustees.   After National Litho, DIP lenders will likely demand this broad priority language so that they can retain priority over any and all administrative expenses if the case is converted from chapter 11 to chapter 7.  In such cases, chapter 7 trustees will not be able to obtain a carve-out for their expenses because they will not have been appointed at the time that the DIP financing is approved. As such, this decision might prompt to the United States Trustee to request that DIP financing documents include a carve-out provision for post-conversion administrative expenses.  Ultimately, without such a carve-out, a chapter 7 trustee runs the risk of not having his post-conversion administrative expenses paid if the bankruptcy estate is administratively insolvent.  

 

 

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