During the bankruptcy cycle following the recession of 2001, numerous debtors – notably airlines such as US Airways and United Air Lines, Inc. – undertook “distress terminations” of their ERISA-qualified defined benefit pension plans, which are insured by the Pension Benefit Guaranty Corporation (PBGC). The PBGC found itself holding large general unsecured claims arising from significant underfunding of pension plans insured by the PBGC as a result of these terminations. Efforts by the PBGC to obtain either administrative priority or secured status for these claims invariably failed.1

These claims generally resulted in meager returns of between seven and eight cents on the dollar.2 The PBGC appeared to be heading toward insolvency3 as a consequence of these terminations and its inability to obtain either priority or secured status for its claims.

In response to this threat to the solvency of the PBGC, Congress amended ERISA in 2006 to provide the PBGC with a “Termination Premium”4 in the event of a distress termination of an insured pension plan. Outside of bankruptcy, an employer terminating an ERISA-qualifying plan under certain circumstances, including distress terminations, was required to pay a fee to the PBGC equal to $1,250 times the number of employees who were participants in the pension plan immediately prior to termination.5 However, if the plan is terminated during a bankruptcy proceeding, the date on which the Termination Premium is determined is the “date of discharge or dismissal of [the employer]” in the bankruptcy proceeding.6 The Termination Premium is payable for each of the three years following termination or discharge, as applicable.7

This statutory provision underwent its first test in the bankruptcy case of Oneida Ltd., a maker of flatware.8 Oneida terminated one of its pension plans during its bankruptcy proceeding following extensive negotiations with the PBGC regarding both termination and the amount of PBGC’s secured and unsecured claims.9 Following confirmation of Oneida’s plan of reorganization, the PBGC asserted a $6.9 million Termination Premium.10 Oneida argued that the Termination Premium constituted a prepetition unsecured claim against the bankruptcy estate, entitled to the same treatment as all of the PBGC’s other unsecured claims under its plan of reorganization, which were to receive no distribution.11 The PBGC argued, on the other hand, that the Termination Premium was either (a) not a “claim” under the Bankruptcy Code and, therefore, unaffected by the confirmed plan12 or (b) an administrative claim against the Oneida bankruptcy estate.13

The Bankruptcy Court agreed with Oneida, finding that the Termination Premium constituted a contingent claim against the Oneida bankruptcy estate as of the petition date and, therefore, a “claim” under section 101(5) of the Bankruptcy Code, subject to administration by the Bankruptcy Court and the terms of a plan of reorganization.14 The Bankruptcy Court also rejected the argument that the Termination Premium constituted a new nondischargeable debt, noting that the amendment to ERISA did not explicitly amend the Bankruptcy Code or prevailing bankruptcy law to create a nondischargeable debt, and Congress had almost contemporaneously amended the Bankruptcy Code under the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) without including the Termination Premium among newly added nondischargeable debts.15 The Bankruptcy Court also determined that the Termination Premium constituted a prepetition claim because it related back to a prepetition relationship between Oneida and the PBGC.16 Finally, the Bankruptcy Court determined that the Termination Premium was not an administrative expense claim under section 503(b) of the Bankruptcy Code, principally because the PBGC did not provide a postpetition benefit to Oneida.17

On direct appeal from the Bankruptcy Court, the Second Circuit Court of Appeals reversed the Bankruptcy Court’s decision, disagreeing with the Bankruptcy Court’s expansive definition of a “claim” that is subject to administration under the Bankruptcy Code. The Second Circuit began from the premise that “the existence of a valid bankruptcy claim depends on (1) whether the claimant possessed a right to payment and (2) whether that right arose before the filing of the petition.”18 In making this determination, according to the Second Circuit, courts look to “the substantive non-bankruptcy law that gives rise to the debtor’s obligation.”19 The Second Circuit noted that the purpose of the addition of the Termination Premium to ERISA was to “prevent employers from evading the Termination Premium while seeking reorganization in bankruptcy.”20 According to the court, because the Termination Premium cannot arise until the bankruptcy proceeding has effectively ended, through either discharge or dismissal, the Termination Premium cannot constitute a “claim” under the Bankruptcy Code.21

Certain commentators have posited that the result of the Second Circuit’s decision in Oneida will be the creation of significant administrative claims in favor of the PBGC as a result of the Termination Premium. In fact, it appears as though both the legislative intent22 and the result of the Second Circuit declaring that the Termination Premium is not a “claim” under the Bankruptcy Code remove the Termination Premium from the ambit of the Bankruptcy Code altogether. If the Termination Premium does not arise until a Chapter 11 debtor is “discharged,” it will not arise until the Chapter 11 debtor has confirmed a plan of reorganization, which is the point at which discharge will occur.23 The case law is clear that postconfirmation claims are not “administrative” claims under section 503(b) of the Bankruptcy Code.24 However, plan proponents will need to avoid gaps between plan confirmation and the effective date of the plan if the Termination Premium is ultimately found to follow the debtor’s assets regardless of plan structure or if the Second Circuit’s decision in Oneida is not read as excluding the Termination Premium altogether from the definition of a “claim” under section 101(5) of the Bankruptcy Code, as at least one court has held that claims arising during that gap are, in fact, administrative claims under section 503(b) of the Bankruptcy Code.25  

If the Termination Premium cannot be defined as a “claim” under the Bankruptcy Code, then it appears, as the Oneida Bankruptcy Court feared, the Termination Premium is essentially a new nondischargeable debt. The concept of debts being nondischargeable in corporate Chapter 11 cases is a novelty because, prior to enactment of BAPCPA,26 corporate Chapter 11 debtors were considered largely immune from nondischargeable claims.27 However, there is precedent that provides guidance in this area.

In 1980, Congress enacted the Multiemployer Pension Plan Amendments Act of 1980 (MPPAA).28 The MPPAA amended ERISA to, among other things, close a loophole under ERISA regarding employer withdrawal from multi-employer plans that allowed member employers that withdrew from multi-employer plans to evade liability to the PBGC for unfunded plan obligations if the plan was not terminated within five years of the employer’s withdrawal.29 During this five-year period, the withdrawing employer would merely have a contingent liability to the PBGC in the event that the plan failed during that period.30 As a result of the MPPAA, an employer that withdrew from a multi-employer plan would incur withdrawal liability directly to the plan for an amount intended to equal the employer’s pro-rata share of the plan’s unfunded obligations, based on plan contributions during the previous five years.31

In In re Computerized Steel Fabricators, Inc., the debtor confirmed a plan of reorganization under the Bankruptcy Act in November 1981. The bankruptcy plan did not reject the debtor’s collective bargaining agreement, which would have resulted in withdrawal from the debtor’s multi-employer pension plan. The debtor ceased all business operations in June 1982, resulting in withdrawal from the pension plan.33 The pension plan asserted a direct claim against the debtor under the MPPAA, which claim included amounts related to prepetition periods, the period during the pendency of the bankruptcy case and postconfirmation periods due to the five-year lookback period for calculating liability under the MPPAA.34 The debtor argued that the discharge it received during the bankruptcy proceeding prohibited the pension plan from seeking payment based on prepetition and preconfirmation periods.35 The Bankruptcy Court disagreed, noting first that “[m]erely because the calculations of amounts in arriving at such liability include pre-petition and pre-confirmation factors does not mean that such liability should be regarded as having accrued either during a pre-petition or post-confirmation period. 38 The Bankruptcy Court went on to hold that the entire liability under MPPAA was “triggered” when the debtor completely withdrew from the pension plan, which occurred postconfirmation.37 As a result, the entire claim of the pension plan was not subject to the discharge granted the debtor under its Chapter 11 plan and remained a liability of the debtor.

Other cases outside of the ERISA context also illustrate the careful distinction between prepetition or preconfirmation debts discharged through a Chapter 11 plan and postconfirmation debts that become binding on the reorganized debtor.38 As the Second Circuit succinctly explained, “once the bankruptcy court confirms a plan of reorganization, the debtor is free to go about its business without further supervision or approval of the court, and concomitantly without further protection of the court.”39

The Computerized Steel Fabricators decision taught bankruptcy practitioners a valuable lesson: If you are going to terminate a defined benefit pension plan, do it during the Chapter 11 case.40 The application of that lesson appears to have resulted in the Termination Premium under the Deficit Reduction Act. The creation of a new, and potentially significant, de facto nondischargeable debt will require debtors, their counsel and all other parties in interest to carefully reconsider the way in which reorganization plans are structured where the risk of a Termination Premium exists and whether reorganization is even a feasible alternative.

Clearly, if the debtor is reorganized and all of the debtor’s interest in property of the estate simply revests in the debtor, it seems likely that the reorganized debtor will be encumbered by the Termination Premium liability.41 If, however, the plan is structured such that all of the property of the estate is transferred42 or sold43 to entities other than the debtor, it may be the case that the nondischargeable Termination Premium claim of the PBGC – which is payable over three years following plan confirmation – simply becomes an unpaid obligation of a corporate entity slated for dissolution; a result that returns the PBGC back to the same position it occupied prior to the amendment to the Deficit Reduction Act. If subsequent courts determine that the PBGC’s Termination Premium cannot be avoided through careful plan structure, it is also possible that every Chapter 11 case involving legacy pension obligations insured by the PBGC will involve little more than a section 363 sale followed quickly by conversion. In short, the Second Circuit’s decision in Oneida may have upheld the intent of the Deficit Reduction Act, but generated unintended consequences that undermine that intent.